Investing is a great way to grow your wealth and achieve your financial goals. However, it is not an exact science and sometimes, even the most seasoned investors make bad investments. Because you invest in order to earn a return, if an asset fails to make you any money, or worse still, it makes you a loss, it is fair to call it a bad investment.
Luckily, losses are not irrecoverable and they definitely should not deter you from investing ever again. With some help, you can recoup the losses from prior investments and earn a good return. Obviously, how bad an investment is depends on the specific situation, but there are a few general things you can do to help you recover from one, which we explore with Victor Marangu, the Head of Sales and Marketing at Standard Investment Bank, below:
1. Don’t take it personally... the idea failed, not you
Even the most seasoned experts make bad investments sometimes. However, they don’t let losses define them or stop them from investing. They simply learn from the situation and carry on.
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You should do the same.
Ask yourself, what set of decisions led to the bad investment? Did you act too quickly or too slowly? Did you have sufficient information before taking any action? Such questions help you contextualize the situation and give you an action plan for future investing.
2. Understand the sunk costs and opportunity cost
Sunk cost is the irrecoverable loss made from a bad investment. We sometimes fall prey to sunk cost bias, especially when we get attached to the idea that the investment will recover. The downside is that it might actually cause bigger losses.
Say, for example, you bought 100 ‘ABC’ shares, worth Sh25,000. That means one ABC share is priced at Sh250. Imagine that soon after, ABC’s share price plummets to Sh225. Due to sunk cost bias, you may convince yourself to hold on to the shares because you already spent Sh25,000 on them and that maybe the next day, the price will climb again. However, tomorrow, the price may sink even lower to Sh200 and because you didn’t sell on time, you lose Sh5,000 instead of 2,500.
Opportunity cost, on the other hand, is what you miss out on because you chose a specific action. If you only had Sh25,000 to invest, and you used all of it to buy ABC shares, the assumption is that you lost out on gains from all the other shares you failed to invest in. You might have avoided a larger loss if you had spread out your capital amongst various investment vehicles.
Understanding the sunk cost and opportunity cost of each investment you make will help you recover from bad investments much quicker.
3. Seek legal redress
In some cases, you may be able to seek legal redress for a bad investment. Of course, this only applies if you lost money because your fund manager was careless or acted in ways that violated the terms of agreement. If that is the case, file a complaint with the relevant regulatory body, in this case the Capital Markets Authority (CMA). Ensure you have proper documentation to back up your claim.
CMA is very helpful in mediating on behalf of aggrieved investors. However, their hands are tied if the product you have invested in is unregulated. To protect yourself and your capital, consider investing in regulated products only, which have to comply with specific CMA guidelines to operate.
4. Do your due diligence
Oftentimes, bad investments are the result of making uninformed decisions. To recover, always do your due diligence before making any investment decisions. You may also consult a trusted financial advisor to help you understand investment concepts that may be a little complex.
If you are uncertain about making the tough investment calls, you may entrust a licensed fund manager with a proven track record to manage your portfolio for you.
The most important thing you need to remember is that a bad investment does not define you. If you learn from the past, do your homework and partner with the right people, investing can be a lot more rewarding for you going forward.
Dr Pesa, Victor Marangu, is the Head of Sales and Marketing at Standard Investment Bank.