Knock knock community, I got something to show you today!
A big part of my studies revolved around different phenomena, and one of them, that I remember the most and had a huge impact on my life was the failure of not considering your opportunity cost. I was like most of us; not thinking too much on evaluating small choices in everyday life – one just do things instinctively. I was shocked when I learned that not evaluating your opportunity cost can “cost” you greatly.
Let me give you an example!
Imagine that you sell your BTC (Bitcoin) and invest it in real estate during a period where you see that the real estate market is just growing and growing, and you cannot be sitting it out (like most of the markets in the big cities around the world have been doing). After you have executed the investment and reallocated your portfolio (which you saw necessary), the real estate market becomes unstable and then you watch closely as the prices fluctuates. Finally, you sell of your real estate and you obviously made a small amount of profit on that investment. “WOW”, you shout out load! “that turned out to be a brilliant investment”! But, somebody will eventually point out that you could have earned even more money by just holding on to your beloved BTC. At some level, you knew this was going to happen, but you still feel that investing in that real estate was a great choice; at least you did not lose any 'MONITAS'. This actually happened to me last year, I was acting irrationally because I failed to consider opportunity cost. I sold almost all of my BTC and bought a rental apartment… I tell you one thing, I made a profit but, it was an expensive opportunity cost!
Is it possible to analyze this?
Actually, what I learned back on my master’s degree was shocking, it is so easy to analyze, yet I bet there are few that really practice it. My above decision problem can be represented using a decision tree: a graphical device showing us what actions that are available to us. Given that you only have two available actions – holding crypto and buying real estate – your decision problem can be represented as a simple decision tree like the one I have personally drawn below (Figure 1).
Figure 1 | Decision tree
Suppose that you are tempted to buy real estate. What do you think is the cost of doing so? There would be an out-of-pocket or explicit cost: the seller would probably want some 'monitas' in order to give it up. The real cost, however, is what you actually give up when you buying a piece of real estate. The opportunity cost of an alternative is the value of what you will have to give up if you choose it.
Let me give you a dollar example. Suppose that in general BTC will gain $10 000 over the next year and that in general real estate will gain $9000. If so, the opportunity cost of buying real estate is $10000 and the opportunity cost in holding BTC is $9000. If you buy a piece of property out of this example, your economic profit would be $9000 - $10000 = -$1000. If you hold BTC, your profit would be $10000-$9000 = $1000. If there, from here, are more than two options, the opportunity cost is the value of the most valuable alternative option. Assume that you could have chosen between holding BTC, buying real estate or buying stocks and that stocks will gain $5000 over the next year. The opportunity cost of buying BTC would remain $9000, and your profit would still be $1000.
Decisions are hard, whenever you choose to go down a road, there is always another road that you choose not to go down. When you take a trip to Paris you cannot at the same time have a trip to New York. When you use your hard-earned HIVE tokens to buy a blue Lamborghini you cannot at the same time buy a red Lamborghini, or maybe you can?
Source: (https://www.autogespot.com/ferrari-monza-sp2/2019/10/28)
When you spend some time reading the economist you cannot spend the same time reading the financial times. When you blog on 
I could have “dragged” this further out; the topic opportunity cost is huge, but I do not feel it’s necessary here, I might write more about it in the future. Today I just want you to be aware of the opportunity costs that lies within the horizon. You might see them a couple of times; you might see them often, but what is for certain is that if you do not consider your options thoroughly the costs will be large (experienced by the author of this post).
Cheers
-Olebulls