The Contrarian Investor

The year 2013 is winding down and now is the time to take out your crystal ball and try to forecast the markets for 2014. Banks and brokerage houses have teams of analysts who are busy charting their moves, picking stocks and piecing together the bits and pieces of our economy, trying to predict which way investors will jump. They build models and write scenarios based on the facts at hand. For example, one overriding question is whether the US Federal Reserve will taper their purchases of government and mortgage backed securities and how it will impact stock prices? Their analysis spans the entire globe, country by country and what they think may happen. What tends to happen is referred to as the “herd” mentality where large groups of investors join together to either push up the price of a stock or dump the stock of a company that falls out of favor.

Enter the Contrarian Investor

There are investors who believe that this “herd” mentality leads to stocks being pushed higher, way beyond their company’s valuation. A case in point is Apple. Investors got so enthusiastic that they pushed the price to near $700. Then they realized that the stock price got way ahead to actual company performance and sold the stock back down near $500. This “herd” mentality also tends to drive prices of good stocks lower, way beyond the company’s book value.

Contrarian investors follow the premise that “consensus” opinion may be wrong and invest in a manner that does not follow conventional wisdom. They look for stocks of good companies that have been beaten down by excessive selling and will take an opposite position of buying the stock. They analyze investor “sentiment” media coverage, trading volume and business prospects for the company going forward.

Dogs of the Dow.
One popular contrarian play is to buy the Dogs of the Dow. The Dogs of the Dow are the stocks in the Dow 30 that have higher relative dividend yields. Since yields and price move in opposite directions, the Dogs are the stocks that have been sold off during the year. The trade is simple. You buy the Dogs on the 1st trading day in January and sell them on the last trading day in December. The track record has been quite remarkable. Here are some stats:
1996 up 29%, 1997 up 22%, 1998 up 11%, 1999 up 4%, 2000 up 6.4%, 2001 down 5%, 2002 down 9%, 2003 up 29%, 2004 up 4.4%, 2005 up 5%, 2006 up 30.3%, 2007 flat, 2008 down 38.8% (Dow fell 31.9%) 2009 up 16,9% 2010 up 14%.

Contrarian Strategy by Sectors
You can use the same strategy using sector analysis. Here are stats for the 12 lowest performing sectors according to Weighted Alpha (Barcharts.com)
Mining Gold -51.58
Silver -49.38
ETFs Precious Metals -31.94
ETFs Alternative Investments -21.53
ETFs Metals -19.12
Fertilizers -18.65
Non ferrous Metals -16.63
Metal Product Distribution -15.86
Emerging Markets Integrated -15.32
International E & P -15.14
ETFs Grains -14.58
ETFs Agriculture -12.24

For example if you believe that gold and silver will reach a bottom in 2014, the Contrarian Investor would look to buy good but beaten down mining stocks or ETFs. The same would be true for the grains. While we had bumper crops in 2013, we could experience a drought in 2014, in which case, this sector would bounce back.

This discussion is for information purposes only and is not a recommendation to buy or sell these securities or ETFs.

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