Which Hidden Costs We are Paying While Making Every Investment?

 

Title : Which Hidden Costs We are Paying While Making Every Investment?

Hi Readers,

Hope all of you are doing fine amid this 2^nd surge of Covid-19.

Today we will learn about some hidden costs which we all are paying while making each and every investment as well as investment decision. The more interesting thing is these costs are not shown in any balance sheet or P&L account too.  But because of their unavoidable nature we have to pay them with or without our consent.

These costs are known as Opportunity Cost and Switching Cost accordingly. Let’s understand them one by one.

                     

A.      Opportunity Cost: Opportunity Cost is the cost which one ought to pay while making any investment or rather any decision. In simple words, Opportunity cost is the opportunity lost. The idea of opportunity cost has first begun by John Stuart Mill.

When we make any decision, whether regarding investment or not, we pay opportunity cost for making that respective choice and sacrificing the choice which we did not make. Let’s take a simple example of our day-to-day life here,

Today, a person chooses to make a plain salad instead of Cheese-loaded Pizza. He got more healthy option by choosing salad but he sacrificed the spicy and tangy taste of pizza. That’s what is an Opportunity Cost for the person.

Suppose, in above example, if a person would have chosen to make a Pizza, he would have sacrificed the healthy option of salad so, the Opportunity cost is relative for person to person.

B. Switching Costs:  Switching Cost is somewhat related to opportunity cost only. There is very thin difference between the both costs.  It’s a cost when one sacrifices to choose one brand or option over the other. 

For Example: Let’s   take an example of current situation. Due to Covid-19 pandemic, most of us are preferring online -home delivery options over local grocery shops to avoid the risk of going outside. Here we are getting services at our doorsteps but while switching to these online options we are paying some costs such as reputation and client- seller relation bond with traditional grocery shop owner based on which he might give us goods at eleventh hour without a hurry of immediate payment. The cost is known as ‘Switching Cost.

Now, Both the Costs play vital role in investment aspect also at Micro as well as Macro-economic levels.

 

1.       For Instance,

 

While making investment, Mr. A chooses to invest in Equities rather than Debt or Bank FD, his opportunity costs will be sacrificing steady returns, constant and specific amount of return at a specific predetermined date etc.

Here, he is ready to pay the above Opportunity costs to get the benefits like sharing the company ownership, share in the remaining or residual income of the company, voting rights etc. benefits which he is getting by investing in equities.

The case may be vice-versa.

 

Example 2^nd:

 

 

Miss. B chooses to transfer her home loan to bank P instead of Bank Q, which is her earlier loan borrowing brand. Now she is paying switching cost of reputation of brand Q, Investment relations established with Brand Q, facilities offered by brand Q for loyal investors etc.

Here, she is ready to pay these Switching Costs to enjoy the new and upgraded facilities offered by brand P, interest rate difference, payment terms and conditions, tenure option etc.

The case may be vice-versa.

These both, Opportunity cost as well as switching cost can be elaborated as Intangible Costs like Intangible assets such as Goodwill, Patents etc.

 

Moreover, Opportunity Cost can be computed with a formula

 

Opportunity Cost:

 

Return On best sacrificed option - Return on chosen option

 

 While Summing Up:

From the investor’s spectaculars:

While being an opportunist in switching or investing one should always try to keep these costs minimum.

From the Seller’s Point of View:

 One should always try that these two costs will be very high for investors or buyers so that they can not leave the brand or option easily.

 

for the more interesting posts... Stay tuned with the Blog ABCD of Madhura P Karekar( https://letsspeakinvestment.blogspot.com)  till then be safe and take care….

Have a Happy Investing ahead...