Are you familiar with opportunity cost? Most people in business have come across this term early in their careers, but everyone, regardless of profession or interest, can use opportunity cost to their advantage.

This is especially true when it comes to investing. If you think through your investments before putting money into them, you can pick better options and thus increase the potential return you earn.

Let’s get started to see this in action.

What Is Opportunity Cost

In its basic form, opportunity cost is the benefit received versus the potential benefit from another decision. For example, let’s say you run an airline. Half of your plane is booked and the other half of the seats is empty.

You could decide to do nothing and try to sell some of those open seats for full price. Or you could drop the price and try to fill the seats for less money.

The opportunity cost of holding out for selling full price seats is earning a smaller profit by selling open seats at a discount.

With the recent tax cuts, many companies have decided to hand out bonuses to employees versus reinvesting the money into equipment. You can be sure they did their analysis to determine the opportunity cost of this decision.

Opportunity Cost For Investors

So how does opportunity help you as an investor? If you use it to your full advantage, it will help you to make smarter investment decisions. Many times, we make our decisions based off emotion. As a result, many times we never earn the returns we could.

By taking the time to compare investments, you can make a better decision. For example, you might want to invest in a certain stock because you are hearing good things about it.

But if you wait and compare it against another potential stock, you might realize that the other stock is a better investment given your goals and risk tolerance.

Taking Risk Into Account

Speaking of risk, there is an important part of opportunity cost that you need to be aware of in order to make the best decision. This is taking risk into account.