Definition:
Woulda, coulda, shoulda. Those are the sounds of opportunity cost. Opportunity cost is the price of the road not taken.
Each time you choose between investments, you sacrifice the potential of the rejected option. For example, if you keep your money in your pocket, the opportunity cost is what you could have made in a savings account. Or when you invest in a very safe, low-return bond, there's an opportunity cost from not having invested in a riskier, but higher-return vehicle.
Opportunity cost is a popular concept with economists. But it's application to everyday investors is limited. There are, however, two things worth noting:
- All investments have an opportunity cost associated with them. You can't invest in everything. And you won't always make the best investment choice available.
- Opportunity cost is a function of time. Locking in a low return for a long period of time has a higher opportunity cost than doing so for a few days.