As my clients know well, I am a contrarian when it comes to investing in the market. To me, buying a stock is no different than shopping for a new house, car, or wardrobe at the mall. You get your best deals when you are either buying things other people don’t want (store sale racks, foreclosed properties), or buying things when other people aren’t shopping for them (winter coats well into the season).
As a result of natural human behavior, many market participants use contrarian sentiment indicators to guide their investment strategy. Measures of investor bullishness and consumer confidence, for example, are proven contrarian indicators. Sometimes certain events can even mark emotional extremes.
Consider banking analyst Meredith Whitney’s decision on February 18th to leave her sell side job at Oppenheimer to start her own firm. Prior to October 2007, few people even knew who Whitney was, but after she became one of the first analysts to point out a possible capital shortfall at Citigroup (NYSE:C) she immediately became the face of the banking crisis (thanks to the financial media) and has been extremely bearish on the group ever since.
So, we have a relatively unknown banking analyst make a good call on a large bank stock, the media picks up on it and runs with the story for months, and less than 18 months later she has enough of a following to start her own firm. These kinds of events often mark extremes, in this case, the depths of the banking crisis. For an analyst who made her career by being unrelentingly bearish on banks, it stands to reason the banking sector would be struggling mightily around the time she quit her job to go out on her own. It makes sense to question whether negative sentiment would be peaking around that time.
Of course, I wouldn’t have used this example if it didn’t serve as a positive data point for the contrarian indicator thesis. We won’t know for another year or two if Whitney quitting actually was a great contrarian indicator or not (it’s too soon to call the bottom in the banks), but it took only 12 trading days for the bank stocks (and the market itself) to put in a fierce and dramatic bottom on March 6th. Since then the market has risen 36%. Financial stocks have fared even better, soaring 105%.
Another contrarian indicator I follow is the number of worried emails and phone calls I get from my clients about their investment portfolios. If I get a few clients expressing concern over a period of days, that signals to me that sentiment is extremely negative and a bottom may not be far off. This personal indicator of mine peaked on March 2nd, merely four days prior to the market’s bottom.
All in all, contrarian indicators measuring sentiment among investors and other market participants can still be a very valuable tool when managing one’s investments. I recommend keeping them in mind as you continue to follow the market and your portfolios.
Full Disclosure: No position in Citigroup at the time of writing, but positions may change at any time