I became aware of contrarian investing before I started having my own business. It was my employer who explained the concept to me, and he told me how a great believer of this concept he is, and why. Although I was very new to the term, I have discovered that I have nearly always used it when purchasing stocks, and most of the times (over 90%) I made money on my stocks.

Anyway, Let’s explore what contrarian investing is, its strategies, and why it’s really the best thing since sliced bread when it comes to stock trading.

What Is Contrarian Investing?

Contrarian investing is when you go against the market and against the analysts’ opinion about the stock (whether positive or negative) and buy/short the stock in hope that the current trend will be reversed. If you think about it, contrarian investing is nothing new, in fact, it is based on the fact that all stocks experience upswings and downswings, and it’s better to sell a stock that has been going up for a while rather than buying another position in the same stock.

An Example of contrarian investing

As you already know, all analysts and all blogs are saying that RIM, as a company, sucks (and may go bankrupt), and that RIMM is doomed. But you know for a fact that Blackberry sales are increasing (How? Well you go and check your local retail stores!). So you go and buy the stock. Sooner or later the true truth will be unfolded, and the stock will skyrocket, and you’ll make a lot of money. Of course, contrarian investing shouldn’t be just “Hey, this stock is going down like crazy, everyone is saying horrible things about it, I think I should buy it”. You must do the necessary due diligence on the stock first. Additionally, there are stock that experience cycles (called cyclical stocks) – such stocks go up and down in a predictive manner (of course the long term trend is either up or down). A great example of a cyclical stock is a HNU (Horizons BetaPro NYMEX Natural Gas Bullish Plus ETF) – an ETF stock for natural gas (Canadian Market):

You can see from the above chart that there’s a cycle for HNU every month or so, it goes up and then goes down and then goes up, etc… Of course there seems to be an upward trend, but you shouldn’t care about this because you only buy when the stock is really down according to the trend and sell when the stock is relatively high, regardless of what analysts are saying about natural gas. This kind of trade will always work, as long as you are blessed with the virtue of patience.

What Are the Most Used Contrarian Investing Strategies?

Here are some strategies to use when doing contrarian trading:

– Don’t follow the herd (this is yet another definition of contrarian trading).
– Research the stock before buying or selling.
– Don’t get greedy when you start making money.
– Expect to lose on the very short/short term.
– Contrarian trading works best with cyclical and commodity stocks.
– Maintain your faith in your skills, and don’t get scared if you’re losing a lot of money. Your losses will be reversed sooner or later.
– It’s always better to go bullish with contrarian trading rather than bearish (e.g. buying stocks that are falling instead of shorting stocks that are going up). This is because the nature of the stock market: it always goes up on the long term.
– Never play this game with stocks that are non-cyclical and are locked either in a bullish trend or a bearish trend for a long time (a long time means over 6 months).
– Never go bullish with a company that is losing money, even if it’s a cyclical stock.

If you apply all the above then you will have a great potential of making a lot of money, while others who have recently rode the trend (bought at a very high price based on analysts estimation), will be crushed.

Why Is Contrarian Investing Great?

Well it’s because the potential of making money is very high, and the risk of losing money is very low. Let me explain, when everyone, all of a sudden, is saying “sell this stock”, “sell this stock”, this means that really big investors want to buy. Most market analysts are paid by large investors to spread rumors/propaganda and to encourage people either to sell or to buy stocks. When you buy, they sell, and when you sell, they buy. So, let’s say you bought an already beaten stock, how low can it go if it’s already beaten to death? But how high can it go now that it’s dirt cheap? Think about it…