Be A Contrarian Investor: 3 Ways To Think Differently In The Stock Market appeared first on The Stock Market Blueprint Blog.
In a previous post, I discussed five steps investors must take in order to buy low and sell high in the stock market.
Those five steps boiled down to this simple fact: You must be a contrarian investor in order to profit in the stock market.
"I am a better investor because I am a businessman, and a better businessman because I am no investor" - Warren Buffett In the past, the value investor Mohnish Pabrai has spoken about why investors need to have some first-hand business experience. Pabrai started his own IT consulting and systems integration company, TransTech, Inc, in Read More
So what is a contrarian investor and how do you become one?
The five steps in the previously-mentioned post were the what. The three steps in this post are the how.
Here’s a recap of the what. A contrarian investor is someone who:
- Buys stocks that are out-of-favor
- Sells stocks that are in-favor
- Ignores sell-side analysts
- Overcomes emotional instincts
- Bases decisions on fundamental data
It’s easy to say what to do, it’s harder to know how to do it.
Here are three ways you can become a contrarian investor and successfully implement the above five steps:
- Think differently
- Be disciplined
- Have patience
Let’s breakdown each step.
By definition, a contrarian investor is someone who thinks differently than everyone else.
To the individual investor, the stock market consists of “everyone else.” Current market prices are the sum total of what everyone else is willing to pay or accept for a particular stock.
When prices are low, everyone else is selling. When prices are high, everyone else is buying.
To realize above-average profits in the stock market, investors literally have to do what everyone else won’t. In order to buy low and sell high investors must think differently. A necessary component of thinking differently is finding opportunities where others see despair and recognizing despair when others see opportunities.
Without this insight, there is no way to obtain a competitive advantage and outperform the market as a whole. The good news is, it’s not difficult to obtain this insight. Being right when everyone else is wrong simply requires a rational comprehension of market cycles.
Astonishingly, Mr. Market always forgets that everything is cyclical. Rather than understanding that nothing goes on forever and prices always rebound, alternating fear and euphoria manage to take over.
This is evident in every market bubble and subsequent crash. It’s human nature to follow the crowd and join the herd mentality. Psychologically, it’s awfully painful to sit and watch when everyone else is making money. It’s even more painful to lose money when no one else is.
Knowing that underpriced stocks will eventually rise and overpriced stocks will eventually fall, allows investors to profit from the hype of bull markets and the panic of bear markets.
Disciplined investors are able to stay focused through the ups and downs of the stock market. They’re able to profit from opportunities during market crashes and avoid risks during market bubbles.
To be a disciplined investor, consistency is imperative. Without continually implementing a systematic approach, no investment strategy can dependably achieve ample returns.
For example, value investing often yields terribly poor short term results. This makes many investors uneasy and gives cause for them to abandon their respective strategies.
Having the discipline to stick with a strategy is the only way to avoid the stress and uncertainty many investors face. Instead of abandoning an approach during a rough patch, staying the course is most certainly the better bet.
Most investors have unreasonable expectations and cannot tolerate seeing the price of their investments fall or even remain flat.
They often consider price changes as reflections of their judgment: a higher price means they were right, while a lower price means they were wrong.
The sense of defeat associated with lower stock prices can easily turn smart individuals into quitters. The reality is, the stock market doesn’t care what any individual investor paid for a stock.
It’s impossible to select the exact moment at which a stock price will never be lower.
Rather than getting discouraged when an investment declines in value, the best investors understand that being right too soon is not a bad thing. It’s a buying opportunity until the market eventually catches up.
It takes a lot of patience to consistently achieve remarkable long term results as a value investor. In both bear and bull markets, waiting is the name of the game.
During bear markets, there is no saying how long it will take for returns to be realized. During bull markets, investment options become scarcer as prices go up. In either scenario, the wait can be excruciating.
Most people want to be part of something exciting, but value investing can be quite boring.
Although it’s effective, patiently following a highly selective approach goes against the human tendency to seek fast results and easy profits.
In the words of legendary investor Christopher H. Browne, “Value stocks are about as exciting as watching grass grow. But have you ever noticed how much your grass grows in a week?”
Even though value stocks are good investments, they often decline or stay flat for an undetermined period of time. This shouldn’t be a surprise. If a stock is undervalued today, why can’t it be undervalued tomorrow?
Rather than feeling defeated when this occurs, prudent investors understand that waiting out Mr. Market’s irrationality will ultimately prove profitable.
Be a Contrarian Investor
If you are going to succeed in any walk of life, it’s important that you think differently, are disciplined, and have patience. This is especially true if you are going to succeed in the stock market as a contrarian investor.
Mitchell Mauer is the Founder of TheStockMarketBlueprint.com. The Stock Market Blueprint is a site that finds value stocks for investors building long-term wealth. The site’s investment philosophy is anchored in principles established by Benjamin Graham and his most reputable followers over the last 100 years.