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On mental accounting

It's not because my cheery disposition causes me to celebrate small gains and shrug off big losses: as my acquaintances will testify, it's not difficult to distinguish between me and a ray of sunshine. Instead, it's because I do what millions of others do. We have separate mental accounts, so we think of £50 in one account as being different from £50 in another.

Not only does this contradict basic common sense - £50 is £50 - it can also lead us into expensive mistakes, as the University of Chicago's Richard Thaler has shown. For example, it can cause us to hold onto poorly performing shares if we have different mental accounts for paper losses and for realised ones - because the greater pain of realising a loss will stop us selling. This can be costly because there is often momentum in shares; our own negative momentum portfolio (which comprises the 20 worst-performing large stocks) has underperformed the FTSE 350 by over forty percentage points in the last three years. This means that holding onto losing shares causes us to lose even more.

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