What is contrarian investing? Put simply, it’s an investment strategy that is characterized by purchasing and selling in contrast to the prevailing sentiment of the time. Keep in mind, though, that it is anything but simple to implement and succeed at. This is because of the psychology of money.

A contrarian believes that certain crowd behaviour among investors can lead to exploitable mispricing in securities markets. For example, widespread pessimism about a stock can drive a price so low that it overstates the company’s risks, and understates its prospects for returning to profitability. Identifying and purchasing such distressed stocks, and selling them after the company recovers, can lead to above-average gains. Conversely, widespread optimism can result in unjustifiably high valuations that will eventually lead to drops, when those high expectations don’t pan out.

A contrarian does not necessarily have a negative view of the overall stock market, nor do they have to believe that it is always overvalued, or that the conventional wisdom is always wrong. Rather, a contrarian seeks opportunities to buy or sell specific investments when the majority of investors appear to be doing the opposite, to the point where that investment has become mispriced.

This kind of thinking is driven by the psychology of money. Have you ever wondered about the psychology of money? I often have. Doing so and investigating it has helped me understand what we should do with money and achieve the things we want to do with it. For investing is not the study of finance. It’s the study of how peo­ple behave with money. Managing money isn’t necessarily about what you know; it’s how you behave.

Investing is a field that demands contrarian thinking to achieve above-average results. The annual meeting of The Berkshire Hathaway fund in Omaha attracts thousands. All of them consider themselves contrarians. People show up at 4 am to wait in line with thousands of other people to tell each other about their lifelong commitment to not following the crowd. Few see the irony.

Anything worthwhile with money has high stakes. High stakes come with the risks of being wrong and losing money. Losing money is emotional. And the desire to avoid being wrong is best countered by surrounding your­self with people who agree with you.

Social proof is powerful. Someone else agreeing with you is like evidence of being right that doesn’t have to prove itself with facts. Most people’s views have holes and gaps in them, if only subconsciously. Crowds and social proof help fill those gaps, re­ducing doubt that you could be wrong.

There is an insidious problem with viewing crowds as evidence of accuracy when deal­ing with money. Doing so blinds you to the incontrovertible fact that opportunity is almost always inversely correlated with popularity. What really drives outsized returns over time is an in­crease in valuation multiples, and increasing valuation multiples relies on an investment getting more popular in the future — something that is always anchored by current popularity.

Here’s the thing: Most attempts at contrarianism are just irrational cyni­cism in disguise — and cynicism can be popular and draw crowds.

Real contrarianism is when your views are so uncomfortable and belittled that they cause you to second guess whether they’re right. Very few peo­ple can do that. But of course that’s the case. Most people can’t be con­trarian, by definition. Understanding this will help you ride it. It has helped me remember time and again that investing is a field that demands contrarian thinking to achieve above-average results

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