DEFINITION of 'Regret Avoidance'
A theory of investor behavior that attempts to explain why investors refuse to admit to themselves that they've made a poor investment decision so they don't have to face the unpleasant feelings associated with that decision. Regret avoidance causes investors to not correct bad decisions, which can make those decisions worse. Regret avoidance is the result of cognitive dissonance. Regret avoidance also provides an alternative to economists Daniel Kahneman and Amos Tversky's prospect theory, which provides another explanation of why individuals make irrational decisions.
BREAKING DOWN 'Regret Avoidance'
The study of behavioral finance helps us understand actions like regret avoidance. Being aware of our behavioral quirks and the ways we can let emotions irrationally influence our behavior can help us make better decisions. For example, it can help us avoid throwing good money after bad in an attempt to emotionally justify a bad investment decisions. Having a basic understanding of behavioral finance, along with holding a diversified portfolio with a comfortable level of risk, can limit the probability of engaging in destructive regret avoidance behavior.