Abstract
We propose that the sunk cost effect is not actually a fallacy, but a beneficial adaption that helps present-biased investors to overcome temptation and stay with worthwhile investments. Although the effect can sometimes overcompensate so that bad investments are held onto, it yields a net benefit in expectations. We find that sophisticated individuals who anticipate their future preferences are more likely to hold onto investments, yet do strictly worse in expectation than naive individuals. Finally, we propose that present bias may also be the key to understanding the overconfidence bias.
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