The opportunity cost is understood as the cost incurred in making a decision and not another. It is that value or utility that is sacrificed by choosing an alternative A and neglecting an alternative B. Taking a path means that one renounces the benefit offered by the discarded path.
Opportunity cost is a way of measuring what costs us something. Instead of simply identifying and adding up the costs of a project, you can also identify the best alternative way to spend the same amount of money. The perceived benefits of the best alternative is the opportunity cost of the original choice.
It could be said that the opportunity cost is linked to what an economic agent gives up when choosing something. The opportunity cost is also the cost of an investment that is not realized (calculated, for example, from the expected utility according to the invested resources).
In every decision that is made there is an implicit renunciation of the profit or benefits that would have been obtained had any other decision been taken. For each situation there is always more than one way of approaching it, and each form offers greater or lesser utility than the others, therefore, whenever one or the other decision is taken, the opportunities and possibilities offered by the others have been renounced, Which may well be better or worse (Opportunity cost higher or lower).
The value of the best unrealized option is how other professionals are also aware of the aforementioned opportunity cost, which, on the basis of its origin as a concept, must be emphasized at the beginning of the 20th century. And it was at that time, more concretely in the year 1914, when the economist Friedrich von Wieser invents and makes known the same.
In particular, he made the “official presentation” of the term through one of his most important publications entitled “Social Economy Theory”. A work with which consolidated its weight in history, and in particular in the financial and economic, because it not only established the concept we are addressing, but also made special attention to such issues Such as the allocation of scarce resources or marginal utility.
In today’s globalized and competitive economy, changes and events happen swiftly. Conditions can change quickly and abruptly in a matter of hours or even minutes. Under these conditions it is difficult to carefully assess the consequences of taking one path or another. In such circumstances, it is very difficult to evaluate the cost of opportunity present in each decision made, so it is necessary to have as many possible elements of judgment as possible to make timely and appropriate decisions to the circumstances.
The opportunity cost can also be estimated from the profitability that an investment would offer and taking into account the risk that is accepted. This type of calculation allows to compare the existing risk in the various investments that can be made.
The cost of opportunity is not only present at the moment of deciding for something, but on the future path of that decision (Its consequences over time). As an example: if you decide to invest in stocks and not in currencies, the opportunity cost will be present during the lifetime of that investment. It is possible that, when making the investment in shares, these are a more profitable option than the currency, but it may be that the situation is reversed in the future. In this case, at the moment of investing in shares, the opportunity cost of not investing in foreign currency is less than the expected profit from the shares (the profit sacrificed by not buying foreign currency is offset and surpassed by the profit obtained from Buy the shares). But it may happen that, at the turn of a month, the currency will strengthen and shares will fall in price, and at this moment, the opportunity cost outweighs the profit obtained with the decision taken to invest in stocks, which makes a Decision considered good at the time of taking, becomes a wrong decision in the long or medium term.
For an investment to have financial logic, its performance must be at least equal to the opportunity cost. Otherwise, it would be more what is lost by discarding than what is earned by the investment made.
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