Contrarian Investment Strategies by David Dreman

Author:David Dreman [Dreman, David]
Language: eng
Format: epub
ISBN: 9780743297967
Publisher: Free Press
Published: 0101-01-01T00:00:00+00:00

PSYCHOLOGICAL GUIDELINE 21: Favored stocks underperform the market, while out-of-favor companies outperform the market, but the reappraisal often happens slowly, even glacially.

This reevaluation process, heavily influenced by the new psychological findings of Affect and neuroeconomics, is the key to large and consistent profits in the marketplace. From the dawn of markets, people’s reaction to “best” and “worst” investments has been consistent and predictable. And here we come to the bottom line for the practical reader: investors’ behavior is so predictable in this respect that the average reader can take advantage of it. There are proven yet uncomplicated contrarian strategies that should allow you to outperform the market handily, with relatively little risk.

In this part we will present a new paradigm (or model) of investing that will both utilize the state-of-the-art psychology we viewed in Part I and combine it with investment methods based on it that have proved highly successful over many decades. The methods also rely on us to disregard some of the conventional teachings we have received about how we should evaluate stocks, bonds, or other investments. But they are anything but bugle blasts ordering you to follow the new knowledge blindly. Each has been proved over time either by psychology or by superior investment performance.

Sounds a little heady, doesn’t it? Now let’s start at the beginning and see exactly what’s behind these assertions. We’ll begin with a bit of discussion to reveal the elemental structure, function, and statistical justifications of five major variations on the contrarian strategies, each highly successful to date. Using this key, you’ll see how the pieces of the puzzle rapidly fall into place—although I’m afraid it won’t get you a discount on one of those Paul Stuart suits or Ferragamo ties. The five important strategies are:

1. Low-price-to-earnings strategy

2. Low-price-to-cash-flow strategy

3. Low-price-to-book-value strategy

4. High-yield strategy

5. Low-price-to-industry strategy

Each of these strategies has a number of subcategories to allow you to custom-tailor it to your own requirements. Strategy 5, a very new and different type of contrarian strategy, will be introduced in chapter 12.

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