Contrarian Investing Explained (2023): Complete Investor's Guide (2024)

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If all your friends jumped off a bridge, would you jump too? Probably not.

But if a vast majority of investors were headed in one direction, but you firmly believed in going in the opposite direction – would you? 🎯

On the surface, contrarian investing appears to be the perfect solution – a way to beat the market and earn impressive returns while thumbing our noses at the mass of investors all rushing to invest in the latest hot stock or asset. But underneath this easy-sounding strategy lies a considerable amount of time, research, and patience.

When contrarian investing is successful, the profits can be staggering. For example, in 2008, contrarian hedge fund Universa saw earnings of 115%. In that same year, the S&P 500 lost 38.5%, and fellow hedge funds lost 19%. But profitable contrarian opportunities like these don’t occur every day, and this particular strategy can sometimes take years to pay off.

In this article, we will cover how the contrarian strategy stacks up to other popular investment strategies, what sorts of stocks contrarians are buying right now, and the famous contrarian luminaries who’ve managed to beat the market by seeing what other investors just couldn’t see.🔍

What Exactly is Contrarian Investing? 📚

Contrarian investing is an investment strategy that goes against the overriding market sentiment. If the market is on an upward trajectory, the contrarian bets on prices going lower. If investors rush to purchase tech stocks, the contrarian is the one selling their holdings in tech companies.

Although this strategy sounds simple, it requires more work than just buying a stock when others are selling. It also means doing the necessary research to determine if there is a real investment opportunity present. A contrarian investor typically backs up their investment decisions with copious research rooted in fundamental analysis – closely examining a company’s revenue, earnings, profit margins, and other technical indicators.

Within the contrarian mindset, investors may take either a long position, where they think a stock is undervalued and will rise, or a short position where they believe that an asset’s price will fall. Regardless of what direction they believe an asset’s price is headed, contrarian investing is considered a longer-term strategy.

Investors must be prepared to hold their assets for weeks, months, or even years before it pays off – and ultimately, the stock may never hit the price point that they believe it will.

Understanding the Contrarian Strategy 👨‍🏫

To begin with this strategy, we must first clearly understand the market consensus for the asset we are interested in. This research is vital since contrarians may look for investment opportunities in a single individual stock, an industry, or even the stock market.

Once a contrarian investor deeply understands the current market sentiment, they can start assessing the flaws in that thinking and start to identify potential contrarian investment opportunities. For example, Tim might see a bull market in tech stocks, where stock prices have been on an extended upward trajectory, and believe that the industry has become largely overvalued.

After ample research to support their view, he might begin to sell his tech holdings, believing that the market is at a high point and that prices will eventually be forced to decrease to support a more realistic valuation of these companies.

If Tim is new to investing, it may take him weeks or months to fully develop a contrarian viewpoint, and his strategy could take a long time to pay off. Therefore, contrarian investing is not a short-term strategy, and interested investors must be prepared to dedicate a lot of time and research to build their case.

This is not an investment strategy for investors who want to day trade or are looking for short-term gains. There can be a real opportunity cost to having our assets tied up in a long-term contrarian position, as we might miss out on short-term market gains in the meantime.

How Does Contrarian Investing Work? 👷‍♂️

Contrarian investors look for investment opportunities that capitalize on going against the prevailing market sentiment. For example, when other investors are selling energy stocks, a contrarian is buying them at a discounted rate. When retail stocks are booming, a contrarian investor will sell their holdings.

Contrarian investors typically see opportunities when other investors rush into certain market sectors and various asset classes. In these instances, herd mentality amongst investors can lead to some assets becoming steeply overvalued, while the assets that these excited investors sell to chase the trend become available at a discount. Famous contrarian investors like Michael Burry or Ray Dalio became well known because they were able to see what other investors couldn’t – like the impending crash of the housing market in 2007.

As an investment strategy, contrarian investing is a long-term form of active investing, meaning that investors are trying to beat the market rather than trying to match its gains as we would with passive investing. But within those confines, contrarian investing is an open-ended strategy, and investors could take long or short positions, depending on the opportunity they want to pursue.

For example, some contrarian investors prioritize investing in a bear market when the stock market as a whole is doing poorly and is on a downward trajectory. With this strategy, an investor could see their investments pay off when stock prices eventually begin increasing again. However, this approach requires that an investor has the funds and the patience to absorb short-term paper losses until the market improves – something that could take years to occur.

Characteristics of Contrarian Investing 📝

It must be admitted that it takes a certain temperament to be a successful contrarian investor. Interested investors should be willing to undertake immense amounts of research, and need to have a good sense of what other investors are doing.

For these reasons, contrarian investors tend to be seasoned professionals because they have the time, skill set, and resources to perform the deep research required to find potentially profitable investments.

In particular, hedge funds are often known for taking an aggressive contrarian stance. Despite this, there is no reason why an individual investor couldn’t pursue a contrarian investment strategy – we just have to be aware of the work required to make this strategy successful.

Investors would benefit from a firm grasp of fundamental analysis, which allows them to accurately assess an asset’s intrinsic value. Since we will spend so much time researching specific companies and industries, contrarian investors should pick a company or an industry that they find deeply interesting since we’ll spend considerable amounts of time learning about it! Alternatively, to speed up the research process, investors can always onboard the assistance of reliable stock analysis software.

On the psychological side, contrarian investors have to practice a certain degree of fortitude to make this investment strategy work. As the ones going against the grain, our investments may take a long time to pay off, and we have to be able to stick to our plan even when our investments are in the red. Herd mentality is a powerful instinct amongst investors, and it’s incredibly challenging to go against it, let alone to invest our hard-earned dollars against it for a prolonged period of time.

Beginning investors might find it helpful to take a longer-term view since this can allow them to remember that volatility and short-term market swings are nearly negligible over time. On top of this longer viewpoint, investors have to put their faith in companies with strong financial fundamentals since these are the companies whose stocks are likely to prevail over temporary market undervaluations.

Contrarian Investing Compared to Other Strategies ⚔

Because profitable opportunities for contrarian investing may not present themselves every day, many investors will combine this strategy with other long-term or active investment strategies. This section will discuss a few other common investment strategies that investors can combine with a contrarian viewpoint for a potentially profitable outcome.

Short Selling ✅

Taking a short position on a stock, also known as short selling, is done when an investor thinks that the stock price will decrease in the near future. The short seller borrows shares of a specific stock from another party and sells them at the market’s current price. In theory, the short seller then repurchases these stocks once the price has fallen and reaps the difference in price as their profit.

While it can sound simple, short selling can be incredibly risky, given that there is no guarantee when or if a stock’s price will decrease. This leaves the short seller in a very exposed position, as they are on the hook for these shares regardless of the current market price. But, if a short seller does manage to time the market appropriately, these transactions could be highly profitable.

Contrarian investing and short selling both turn a profit based on the market’s misjudgment of the value of an asset. It makes sense that these two investment strategies would be aligned since they fundamentally operate on the same principle – that herd mentality has obscured the actual price of an asset.

However, short selling tends to occur within a much shorter timeframe than contrarian investing, given the need to return the shares of stock to the broker that lent them. This makes the short seller’s choice of brokerage incredibly important – low fees and easily borrowed stocks can help reduce unnecessary stress in an already stressful transaction.

Contrarian investing further distinguishes itself from short selling because it is not limited to taking short positions – only to taking positions contrary to the prevailing market wisdom, even in cases where an asset’s price ultimately rises.

Buy and Hold ✅

Unlike short selling, which demands shorter-term investments, buy and hold is a passive, long-term investment strategy. Buy and hold investors purchase stocks and then “hold” them for extended periods of time. This type of investor typically waits to sell their holdings, believing that it is important to spend substantial time in the market, instead of trying to time their stock trades for the best moment.

A longer-term investment strategy like buy-and-hold can be beneficial – it assumes less risk than some forms of active investing, minimizes trading fees, and can defer taxes to a later date. But, long-term investments could cause the investor to miss out on potential gains that a more short-term investor might be able to capitalize on.

Contrarian investors tend to share the long-term mindset many buy-and-hold investors use. Additionally, some of the necessary psychology is shared, as both types of investors must ignore the noise of short-term dips and spikes to take advantage of long-term growth.

But, buy and hold is inherently a passive investing strategy. In contrast, contrarian investing is an active strategy, meaning that contrarian investors must regularly track their investments and be ready to sell them when they judge the market conditions to be right – if they hope to beat the market.

Value Investing ✅

The most similar investment strategy to contrarian investing is value investing. Value investors strive to find stocks trading for less than their intrinsic value, much like a contrarian would.

Value investors use the principles of fundamental analysis and other technical indicators to determine a stock’s inherent value – think of indicators like the price to book value, which compares a company’s stock price with the value of its total assets. Based on these ratios and measures, a value investor will determine if a stock is undervalued. If it is, they are likely to purchase it.

After investing in an undervalued stock, the value investor typically holds these assets until the stock prices rise to match the company’s value. These types of investors tend to acquire large stakes in these companies, believing that they will profit over time as the rest of the market realizes that these stocks have been incorrectly priced.

Value investing uses much of the same approach as contrarian investing, capitalizing on the market undervaluing a technically sound asset. But unlike contrarian investing, value investors tend to take long positions and typically only invest in single securities rather than mutual funds or exchange-traded funds (ETFs).

In contrast, contrarian investors will look for profitable opportunities in long or short positions. Contrarian investors are also known to invest in more complicated financial instruments rather than reserving all of their investments for individual companies.

Pros and Cons of Contrarian Investing ⚖

Contrarian investing can be an appealing strategy for a certain type of investor. For starters, contrarian positions have the potential to outperform other investments and potentially even the market on a long-term basis.

Moreover, contrarian investors may also experience personal satisfaction when their hard work and research pay off with a well-placed investment. Because the stocks that contrarians tend to buy are inherently undervalued, that can potentially give these types of investors a margin of safety, theoretically reducing their downside risk.

But, contrarian investing can come with some serious drawbacks. Investors could potentially miss out on market gains while their assets are tied up in a long-term investment strategy. There is also the risk of an undervalued stock remaining undervalued – either for an extended period of time or even forever.

Contrarian investing is also a fairly unapproachable strategy for beginner investors, given the amount of time and research that the strategy requires. It can take years to master contrarian investing, and profitable opportunities don’t necessarily regularly present themselves.

This strategy also isn’t suitable for every investor’s needs, like those investing to produce regular income or interested in day trading. Contrarians have to be prepared for regular periods where their portfolio underperforms compared to the overall market. They also have to have the patience to wait for their bets to pay off, ignoring the short-term noise from the stock market.

Different Examples of Contrarian Investing 📜

While some contrarian investors may focus on a specific stock, many may focus on a particular industry or asset class, like micro-cap stocks or utility companies.

For example, many investors in recent years have sold their shares in commercial real estate investment trusts (REITs) as pandemic closures hit commercial real estate especially hard. However, a contrarian investor might see a potential opportunity to purchase these stocks at a steep discount, believing that commercial real estate firms will eventually bounce back at some point in the future.

A contrarian might also use current economic events to shape their investment strategy. For example, many contrarian investors encourage investing during a recession. While other investors are desperate to get their resources out of stocks and bonds during periods of economic strife, the contrarian might scoop up large positions in companies with strong fundamentals at a discount.

While these macro-events could create potential contrarian investment opportunities, it is important to remember that a successful contrarian is still doing homework on any investment they make.

For example, while commercial real estate is likely to make a comeback at some point, not every single commercial real estate company is guaranteed to survive a prolonged period of losses. For any investor, it is impossible to know when the true bottom of the market has been found, and we all have to plan our level of risk accordingly.

Successful Contrarian Investors 🤵

We can’t talk about contrarian investing without mentioning one of its most famous participants – Warren Buffet, the CEO of Berkshire Hathaway.

Despite his contrarian viewpoints, Buffett is best known for being a value investor, meaning that he goes against the grain to find undervalued stocks and holds them until other investors realize their higher potential value.

Another famed contrarian is Michael Burry, most well-known for betting against the housing market ahead of the 2008 real estate crash. He was portrayed by Christian Bale in “The Big Short,” a movie detailing his investing exploits at that time. More recently, Burry is credited with sparking the GameStop investment craze. This phenomenon arguably saw individual investors adopting a contrarian strategy en masse to raise the stock price of the failing company.

Many younger investors have invested under Cathie Wood, a famed contrarian investor and the CEO of Ark Invest. Ark Invest is particularly well-known for its focus on disruptive technologies, offering funds on artificial intelligence, DNA sequencing, gene editing, and electric vehicles, among others. Although Ark’s financial performance has been mixed, the firm has maintained a loyal investor following.

What Defines Famous Contrarian Investors?

Successful contrarian investors tend to share several qualities. First and foremost, they must possess a deep understanding of the stock market and the industries and companies they invest in. This follows logically since one cannot go against the grain of investor sentiment without being intimately aware of what that sentiment is.

Secondly, to be successful as contrarian investors, we must be able to invest our assets into a potentially long-term position. So while we wait for our investments to pay off, we must be willing to forsake short-term gains that our assets could have made elsewhere in the market.

Doing this requires a combination of both the psychological fortitude to ignore temporary rough patches and needs enough capital to be able to stay invested in our long-term bets. This is simply not something that every investor can do – contrarian investors must have the time and the money to wait for their strategy to pay off.

Finally, contrarian investors typically possess a natural curiosity and independent thinking. While these qualities are important, a successful contrarian investor knows that it is not enough to simply buy what others are selling. Instead, a well-researched strategy is required to back up those intuitions.

Conclusion 🏁

As investors, we all hope to beat the market, and contrarian investing can provide us with the opportunity to do that. But, this investment strategy requires substantial amounts of time, research, and patience – something that not all of us have in equal quantities.

That being said, a contrarian viewpoint and the fundamental analysis used to support that viewpoint can be easily applied to other investment strategies, ultimately making us stronger and more deliberate investors.

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All reviews, research, news and assessments of any kind on The Tokenist are compiled using a strict editorial review process by our editorial team. Neither our writers nor our editors receive direct compensation of any kind to publish information on tokenist.com. Our company, Tokenist Media LLC, is community supported and may receive a small commission when you purchase products or services through links on our website. Click here for a full list of our partners and an in-depth explanation on how we get paid.