How much does disposition effect (loss aversion in portfolio management) cost over 25 years?
Scenario
Two investors with identical ₹10K monthly SIP into a diversified equity portfolio over 25 years at 12% gross fund returns. Investor A: disciplined mechanical rebalancing. Investor B: typical disposition effect (selling winners early, holding losers too long).
Inputs
- Horizon years
- 25
- Monthly sip INR
- 10000
- Fund gross return %
- 12
- Disposition effect drag %
- 2
Calculation
- 1.
Investor A: net effective CAGR (mechanical rebalancing)
12% baseline → 12% CAGR
- 2.
Investor A: 25-year terminal corpus
₹10K × SIP-FV factor at 12% → ₹1.89 Cr
- 3.
Investor B: net effective CAGR (disposition effect)
12% − 2% behavioural drag → 10% CAGR
- 4.
Investor B: 25-year terminal corpus
₹10K × SIP-FV factor at 10% → ₹1.33 Cr
- 5.
Cost of disposition effect
₹1.89 Cr − ₹1.33 Cr → ₹56.00 L
Conclusion
₹56 lakh of avoidable loss over 25 years from disposition effect alone — same nominal SIP, same target allocation, same underlying market returns. The disciplined investor captures the fund's full compounding; the disposition-effect investor systematically sells winners early and holds losers too long.
Tradeoffs
The 2% annual drag is typical; investors with significant single-stock exposure or active trading face larger drags. Disposition effect is particularly destructive in concentrated portfolios (3-5 stocks held individually) where holding a single loser for years prevents re-deployment. Index investing structurally reduces disposition effect because rebalancing is mechanical at the fund level.