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What is contrarian investing?
Contrarian investing is an investment style where the investor deliberately goes against the tide. The contrarian investor buys when others sell, and sells when others buy.
Contrarian investing is all about seeking out stocks which others have oversold, or betting against “hot” stocks that have been overhyped and have sky-high valuations.
Contrarian investors believe that market movements are often an over-reaction.
For example, a terrible bit of PR can drive a price so low that it in fact over exaggerates the negative traits of a business. On the flip side, hype around a stock can lead to absurdly high valuations that will drop down eventually.
Advantages of contrarian investing
Like any investing strategy, its advocates will tell you the main advantage is higher returns. Of course, there’s no single clear strategy to plump for. All have their pros and cons.
If you buy stocks at bargain basement prices, and short the market right before a huge crash, you obviously stand to make significant gains.
It’s not easy though by any stretch of the imagination, and relies on you being able to “time the market” as an investor, as well as have the emotional resilience to hold when things look shakey and sell when you’ve made your profits (rather than get greedy).
Disadvantages of contrarian investing
If you’re an obstinate grumpy contrarian, you could just be missing out on genuine bullish sentiment in the market, which is just shooting yourself in the foot.
It’s hard as an investor to stick to your guns and stay on the sidelines, whilst everyone else’s portfolios are on the up.
Similarly, contrarians may say a stock is undervalued only for the market to disagree and never get behind the stock again.
Contrarian investing examples
Let’s take a look at some examples from recent times.
Investing during recessions is a hallmark of contrarian investing.
After the market bottom in 2009, following the financial crisis which began in 2008, the S&P 500 (an index tracking some of the USA’s biggest companies) had risen nearly 300% over the next 10 years.
The bolder contrarian investor out there might see a stock like these two and actually “short” it – meaning they’d make a bet that the stock will in fact fall.
Stocks that have plummeted
On the flip side are stocks that have sunk in value, but the underlying business is still the same as before. Contrarian investors might look at these stocks, asses the fundamentals of the business and conclude that the businesses are, in fact, still worth investing in and that investors have sold off too much.
An example of this could be Boohoo, who saw their shares sink in response to a scandal around where and how their clothes were produced. Without getting political, this is more of a PR issue than it is an issue with their business (although you could easily argue the two are linked).
At the time of writing, since the story broke, Boohoo’s shares are up roughly 50%.
Contrarian investing vs value investing
Contrarian investing and value investing share a key similarity: both approaches look for stocks that have a lower price than they should have.
Value investing is an investment strategy which centres around trying to pick stocks which are trading for less than their value.
It’s in the same ballpark as contrarian investing, although contrarian investors may also be a bit bolder and look to short, or bet against, markets and stocks.
Famous contrarian investors
- Warren Buffett is probably the most famous investor with a contrarian streak, known for the phrase “be fearful when others are greedy, and greedy when other’s are fearful.” Buffett has long encouraged investors to buy stocks during downturns. At the start of the most recent market crash in March, for example, Buffett told investors during the Berskhire Hathaway annual meeting that he still bet on America in the long term.
- Michael Burry. Seen the Big Short? That film’s about Micahel Burry and how he spotted the market crash in 2008. His hedge fund Scion Capital used this insight to short the market and made obscene profits.
- Nassim Taleb is another famous contrarian, maybe not just in investing, although he may disagree. Taleb is known for advocating “tail-risk hedging”. He made a lot of money in the 2008 crash, and the hedge fund he’s associated with, Universa Investments, made a huge return during the market crash in March 2020 due to coronavirus.
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