Tuesday April 10, 2012
A contrarian is someone who takes up a position opposed to
the majority, no matter how unpopular. This has often proven
to be a highly effective investment strategy. More typically,
though, fund investors tend to buy in after a great year for
a fund category, not after a bad one. And that’s too bad, because
a category that loses the most one year is often the best performer
a year or two later. See Brian Bridger’s recent article for
a case in point.
How can this strategy work for you?
To employ a contrarian style of investing is not normally a
strategy in and of itself. It often works best in conjunction
with another strategy. For example, you wouldn’t typically sit
on all your capital waiting for a disastrous event to drive
markets down in the hopes of buying when everyone else is selling.
There is way too much risk with that strategy. The market could
in fact continue rising for three or four years while you wait
for your “disaster.”
Instead, you create a plan to have some base exposure to the
market at all times and stick with it over the long term.
Core and explore
Consider a strategy using dollar cost averaging to build a
solid, balanced portfolio using various equities, corporate
bonds, government bonds, real return bonds (and other investment
instruments) to form the majority of your portfolio (the “core”).
You might then “explore” by allocating 10% to 20% of your portfolio
to asset classes that don’t usually correlate highly with the
stock market (for example, real estate, precious metals, and
natural resources). Some investors also use labour-sponsored
funds and limited partnerships to create some diversity within
their portfolios and receive some generous tax credits at the
Owing to the volatile nature of the sectors I mentioned, many
advisors recommend taking profits if your investment in a particular
“Explore” asset – say, precious metals – grows by more than
30% to 50% in a year.
When your portfolio has grown to a decent size, start to hold
back perhaps 10% in cash and use that when the next correction
comes. We don’t know when it’s coming, but we know for certain
that it is coming. Be ready for it.
To profit from this strategy you have to buy equities in the
downturn, not bonds or other fixed income vehicles. This 10%
injected into the market after a slide of 25% or more will give
you a nice bump in returns, usually within a year, sometimes
in as soon as two or three months.
When this strategy doesn’t work
I was taught to “buy low” and “buy often” during corrections
in my early training. While this frequently works, it doesn’t
always work. In the great tech meltdown at the turn of the century,
Science & Technology funds crashed – and they never fully
The lesson here is to be wary of narrow sector funds, because
the risk rises significantly compared with funds focused on
blue-chip companies. Use your financial advisor to keep abreast
of the big picture and to avoid falling into momentum traps.
Why the strategy isn’t well utilized
Simple. It is very, very difficult to buy when almost all the
news is bad and everybody else is selling. Fear and pessimism
are strong emotional drivers, and often trump logic and reason.
And this is where your financial advisor can steer you in the
right direction, suggesting you buy during a correction, even
though you won’t feel good about it at the time. On the flip
side, your advisor should counsel caution when markets are approaching
or hitting new record highs. Again, you won’t feel good about
it, but you’ll be cushioned from the inevitable reversal.
Generic Mutual Fund Disclaimer
Commissions, trailing commissions, management fees and expenses
all may be associated with mutual fund investments. Please read
the simplified prospectus before investing. Mutual funds are
not guaranteed and are not covered by the Canada Deposit Insurance
Corporation or by any other government deposit insurer. There
can be no assurances that the fund will be able to maintain
its net asset value per security at a constant amount or that
the full amount of your investment in the fund will be returned
to you. Fund values change frequently and past performance may
not be repeated.
Personal Opinions & Recommendations Disclaimer
The foregoing is for general information purposes only and
is the opinion of the writer. This information is not intended
to provide specific personalized advice including, without limitation,
investment, financial, legal, accounting or tax advice. However,
please call the author to discuss your particular circumstances.