Contrarian Investing for the Bravehearted : Chapter 2

In an earlier blog, we had written (https://www.plindia.com/blog/contrarian-investing-for-the-bravehearted/) about how one could take a contrarian stance on stocks, currencies and bonds and how it could pay off well. Since then, almost all the theses worked out- may be luck or maybe just a different view– but the point being – Once you appreciate “value”, “price” would cease to matter!

The Investing Greats

Contrarian investing dates back to the 18th century, when nobleman Baron Rothschild is quoted saying, “The time to buy is when there’s blood in the streets.” Rothschild tells us that the most ideal time for an investor to purchase stocks is when everyone else has been beaten by the market and become fearful of the future.

During the 2008 crisis when financials were hammered, Warren Buffet made a 5 billion USD contrarian bet on Goldman Sachs and by 2013 (in 5 years) got a 62% return on his initial investment. Investing in any of the well run private sector banks 3 years ago on  the NSE would have given similar handsome returns from when ICICI Bank traded at Rs 160 for instance.

Being contrarian just means to follow an investment strategy that is not generally accepted. There are many contrarian investing approaches, including deep value investing. The essential premise of this style is – in order to beat the market, you must be different than the market!

There are many possible ways to practice a contrarian investing strategy. In an excellent article (click the link to read) on this topic, Professor Aswath Damodaran has listed four possible contrarian strategies one can adopt:

  • Biggest losers: Buying into the biggest losers hoping that when the overreaction recedes, the stock will revert to the mean or normal levels. The large-ish Midcap space may well be in this bracket.
  • Collateral Damage: This strategy is to look at situations where the market or a sector has turned negative, dragging the fundamentally sound stocks along with it. Does M&M fall here – of course disbursements were impacted but didn’t NPAs improve and didn’t the Met say it’s a normal monsoon ahead?
  • Comeback bet: This strategy involves analyzing the reasons for a drastic fall in price of a stock and taking positions in the security if you believe the reasons are temporary and fixable in nature. Could the rural based NBFCs be in this space?
  • “Long Odds” Option: This strategy involves analyzing the security (whose price has fallen for right reasons and there is no hope of a turnaround) to see if they have some proprietary technology, license, product which will increase the value of assets in the future. Quite a few Indian pharma stocks may belong here.

Does this strategy fit you?

However, this strategy isn’t for all – to start with contrarian  investing, one needs to be first comfortable being a committed investor and therefore, the first step is to define oneself – what style makes you comfortable?

Succeeding in contrarian investing means you need to judge your own mindset :

  1. Does action drive you or are you a “sleeper” like Rip Van Winkle?

When discussing the changes to the Berkshire Hathaway investment portfolio in his 1996 letter to shareholders, Buffett began by noting, “Our portfolio shows little change: We continue to make more money when snoring than when active.”

This continued a trend from the previous year, when Buffett remarked, “We continue in our Rip Van Winkle mode: Five of our six top positions at year end 1994 were left untouched during 1995.”

Buffett encourages investors to always understand when they buy a stock, they aren’t simply buying a number, instead they’re buying a part — however small or large — of a tangible business and the future earnings it generates.

This may be at complete odds with people who like adrenalin pumping, part of the crowd feeling and “cheer when it goes my way” mode! A trader looks for momentum, opportunity, a chance to capitalize on probability and statistics with a calculated risk factor.

If snoring through investments isn’t your game, contrarian investing definitely isn’t.

2) Do you look for social approval?

Social proof is a powerful psychological concept which explains our behavior when we are unsure how to act during certain situations- Do we then look for re-iteration of our ideas ? And switch on the television to hear “expert” opinions, read newspapers to reassert that your thought process was correct? Or share our portfolios with experts so they can repeat what we want to hear?

You may be lonely in your thinking and without any social comfort as you will seldom find anyone behaving similarly. Are you ok with that?

3) Have you done a careful Assessment

“Investing is simple but not easy” – Warren Buffet – This is equally true of contrarian investing also.

Adopting a contrarian approach blindly just for the sake of not following the herd can be an equally foolish thing to do. One well known  investor articulated this point with a beautiful analogy in a presentation on contrarian investing: If you’re in a movie theatre that catches on fire, you’d be best served to run out of the theatre in contrast to the contrarian tack to run into the theatre.

As Seth Klarman, Billionaire Hedge Fund Manager , once said – Value investing is at its core the marriage of a contrarian streak and a calculator. You need to appreciate value before you adopt contrarian investing. And have a calculator nearby so you can calculate a deep value buffer to protect your investments.

Example: One does want to buy into the auto sector at current levels – stocks like Hero Moto and M&M have been battered out of shape and trading at multi year lows in terms of valuation multiples. At the same time however, they have both come to 100 MMA (Month Moving Average Levels) which is like the hardline between a permanent bear market for the auto sector and a complete reversal back to higher levels – a line that has been tested twice or thrice in the past 15 years and then these stocks rebounded.

Have you been listening to the commentary – and are you worried about a permanent disappearance or do you think the rural economy will repair itself over a 3- 5 year period?

Do you believe post 2019 elections,  whichever government comes – rural will remain a key programme and generate income and employment as infra is built and trading activity improves? Do you believe SMEs will continue to thrive?

Once you have answers to the above – the 100 MMA is a level at which you decide – exit all OR start buying huge quantities.

Finally, as a contrarian investor , you need to have patience to realize the full value. Remember  Keynes’ statement- The market can stay irrational longer than you can stay solvent!

In summary, don’t expect the market to be  a speed boat when you are in for the long haul – its like a huge cruise ship taking a U-turn so while it does, enjoy the view !

Write to us at advisory@plindia.com if you wish us to have a look at your portfolio, share opinions or views on any holdings or just to get fresh new ideas we have for you!

PS: The M&M Chart- Do you see something here? Share your opinion at info@plindia.com!

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