6 Ways to Overcome Loss Aversion

Loss aversion can lead people to favour the status quo, and so clever marketing is sometimes needed to convince people to buy new products

Trial Offer

LOSS AVERSION can lead people to favour the status quo.

How so?

Well, when a consumer considers replacing a good, the presence of loss aversion can lead her to experience more pain in giving up the existing good than she feels joy in acquiring a comparable new one. And so, she does nothing.

While this preference for stability over change can help consumers conserve their money (and we believe that living within ones means is generally a good thing, despite what Paul Krugman will tell you), this penchant for the status quo does not help marketers, entrepreneurs and business leaders persuade consumers to try new products and part with their hard earned cash.

This is not a new problem, but it remains an issue nonetheless.

Below we highlight 6 methods that you can use to overcome loss aversion and encourage consumers to buy new products.

1. Trial Offers & Money Back Guarantees

Trial offers and money-back guarantees are two of the oldest tricks in the marketing playbook. But why do they work?

Due to the role played by loss aversion, when a customer loses a good they generally sacrifice more enjoyment than they gained from acquiring it in the first place.

Trial offers are effective because although a customer may not have been willing to pay the market price to try a product, they may be willing to pay the market price to avoid losing the product when the trial period expires.

Similarly, money back guarantees are effective since, once a good is in a customer’s possession, the payment that she will demand in exchange for giving up the good will tend to be higher than what she originally paid for it.

2. Just Try It On

If you go to buy a suit, the salesperson will probably invite you to try it on.

By doing so, you will start to form an attachment to the product and, due to the role played by loss aversion, the price at which you will be willing to walk away from the product will be slightly higher than before.

3. Trade Ins

People buy goods to enjoy them.

But once the new goods are in hand, people can be reluctant to replace them.

The presence of loss aversion means that people place more weight on losses than commensurate gains, and so can often require a higher price to part with a good than they would be willing to pay to acquire a comparable new one.

While people may have a preference for stability over change, this inclination has been shown to break down where a new good is a close substitute for the old one. And so, if marketers can show that a new good offers all of the benefits of the old good, then people will be much more willing to upgrade since they can part with the old good without losing any benefits.

4. Deferred Payment Plans

By allowing customers to delay payment until after consumption has commenced, you can change the consumption decision from “do I need this?” to “can I do without it?”

5. Framing the Purchase Options

Marketers can influence a purchase decision, even without concealing information, by merely framing the options in a particular way.

For example, would you rather get a 2% discount, or avoid a 2% surcharge?

Lobbyists for the credit card industry worked hard to frame the price difference between cash and credit purchases as a “cash discount” rather than a “credit card surcharge”. The term “cash discount” frames the price difference as a gain by implicitly defining the higher price as normal. And the term “credit card surcharge” frames the price difference as a loss by implicitly defining the lower price as normal.

Since losses have more emotional impact than comparable gains, you are much more likely to forego a 2% discount than to accept a 2% surcharge. And so, by the clever use of framing, consumers have been encouraged to spend on credit.

6. Framing the Expense

People often have a budget and will distinguish between within-budget spending, which they do not think of as a loss, and unbudgeted spending, which provokes loss aversion.

Reader Sally McKenzie made a good point in her comment on the previous post saying, “I think people have intentions for their money. I’m currently travelling on a shoe string budget in Eastern Europe, and it really hurts me to spend money if it makes me exceed my daily budget. Must save precious resources for Croatia!”

Marketers can try to avoid the loss aversion connected with unbudgeted spending by framing a purchase as being within the customer’s existing budget.

For example, marketers might target cost-conscious consumers by describing a product as a “sound investment” which “holds its value well”, and his might be an effective pitch for durable goods like cars or furniture.

Another way to frame spending would be to provide customers with a trial offer. The trial period can give a customer a chance to think about how she might fit the new product into her existing budget. And in this way, the trial offer can help to transform the new purchase into a budgeted expense.

How Much Loss Aversion Will A Person Feel?

“Everything is relative in this world, where change alone endures” (Leon Trotsky)

Loss Aversion 2

IF you were offered the chance to win or lose $100 on the basis of a coin flip, would you take the bet?

If you are like most people, you would probably decline the wager.

Even though the gamble offers an even chance of winning, the stakes are unattractive since the suffering from a loss would be felt much more deeply than the joy from winning.

Economists refer to this as loss aversion, and the emotional impact from a loss is thought to be around twice that of a comparable gain.

While it is convenient to talk about losses as being “twice as powerful”, research suggests that loss aversion will tend to vary from person to person, in different situations, and for the same person at different points in time.

Below we highlight 5 factors that have been shown to influence how much loss aversion a person will feel.

1. Everything is relative

Leon Trotsky is quoted as saying that “everything is relative in this world, where change alone endures”, and Trotsky may well have been talking about loss aversion.

Due to the way that people mentally account for things, gains and losses tend to be evaluated in relative terms. For example, if you lose $100 from a stock portfolio worth $10,000 then you are likely to suffer much less than if the entire portfolio was worth only $100 and you lost the lot.

2. Intention

Nat Novemsky and Danny Kahneman explain that our intentions for a good define whether it is “an object of exchange or … an object of consumption, and therefore … determine whether giving [it] up … is evaluated as a loss or a foregone gain.”

What exactly does this mean?

Well, imagine you have an iPhone. If you are carrying it around with you and someone steals it, then you have suffered a loss. Alternatively, if your intention is to sell the iPhone (because you want to get a Samsung Galaxy) and a good friend offers you $600 for it, but you end up giving it to her for free, then that’s a foregone gain. In each case the result is the same (no iPhone and no money), but the first situation, the one where you suffered the loss, will be more distressing.

3. Duration of Ownership

A person will tend to view a product as more valuable if it has been owned for a longer period of time. For example, if you have a well-worn pair of slippers that you have grown to love, then you will probably be reluctant to throw them away (probably even if they are riddled with holes).

4. Substitutability

A person will find it easier to give up a product if it is exchanged for something that affords similar benefits. For example, you will be much more likely to sell your old car if it is exchanged as a trade-in for a new car which has comparable features.

5. Age

It will probably come as no surprise that older people are more loss averse.

It is easy to imagine a situation where a budding 20-something might be prepared to risk her entire life savings on an entrepreneurial venture, whereas a middle-aged woman might be less enamored by the idea.