Loss aversion is the finding that losing an amount hurts roughly twice as much as gaining the same amount feels good. This asymmetry isn't a minor bias — it distorts financial behavior systematically. It's why people take irrational risks to avoid realizing a loss, and why the pain of a market drop drives selling far more powerfully than an equivalent rise drives buying.
Its most expensive manifestation is the disposition effect: investors sell winners too early (to lock in the good feeling of a gain) and hold losers too long (to avoid the pain of admitting a loss). This is precisely backwards from both a tax perspective and a momentum perspective. The related trap is mental accounting — treating a tax refund or a bonus as 'free money' to spend, when it's the same fungible currency as your salary. Money doesn't have a source label; only your brain applies one.
Daniel Kahneman and Amos Tversky's prospect theory, published in Econometrica in 1979, established that people evaluate outcomes as gains and losses relative to a reference point rather than in terms of final wealth, and that the loss side of the curve is roughly twice as steep. Decades later Terrance Odean tested whether this actually shows up in real money. He analyzed the trading records of 10,000 accounts at a discount brokerage and found the disposition effect plainly in the data: investors were significantly more likely to sell a stock that had gained than one that had lost. Crucially, Odean showed this was costly — the winners they sold went on to outperform the losers they kept, by a meaningful margin over the following year. Investors were systematically selling the wrong holdings, and paying extra taxes for the privilege, in order to manage how the trades felt.