Howard Marks, in his book, “The Most Important Thing”, says,
To be a successful contrarian, you have to be able to:
See what most people are doing
Understand what’s wrong about most people’s behaviour
Possess a strong sense for intrinsic value, which most people ignore at the extremes
Resist the psychological pressures that make most people err
Buy when most people are selling and sell when most people are buying
This is intuitive. Just imagine, how can one earn extra-ordinary return if he follows the crowd? How can everyone be extra-ordinary if everyone is doing the same thing?
More importantly, how are you so sure that everyone is wrong except you? And can you bear to be a contrarian who could be wrong often in the short-time, even you are right eventually?
Let me use a hot stock, Dayang Enterprise, for illustration. I know this is after-the-fact and can be viewed as 马后炮, but just bear with me as it is just an example.
The share price of Dayang was at its low of 70 sen after the announcement of its fourth quarter result for year ended 2017 sometime at the end of February 2018. The quarter saw the company lost RM60m, and the loss for the ear was RM145m, or 15.5 sen per share. That was devastating for investors who could not see beyond the accounting numbers. However, if one has deeper knowledge about industry and the financial statement analysis and the performance of the business, he would be able to see that the losses were due to one-time-off items in impairment of property, plant and equipmen and foreign exchange loss, coupled with the high non-cash depreciation. Cash flows wise, it was great with +RM207m for the firm, or 21.5 sen per share.
The share price dropped further to below 60 sen after another quarter of losses as announced at the end of May 2018. The share price did not recover despite the announcement of good profit of RM39m and RM49m for the next two quarters due to the political uncertainties after GE14 and the escalation of the US-China trade war, until the announcement of final quarter 2018 results in February 2019.
Dayang announced an excellent set of final 2018 quarterly result on a Friday at the end of February 2019 with a jump of profit to RM97.7m for the quarter, or 10.13 sen per share. For the full year 2018, net profit was RM160m, or 16.6 sen. The share price of Dayang jumped by more than 20% on the following Monday when the market opened, as expected. That was when the “Golden Rule” and momentum investors came in with numerous articles and promotions in FA, TA, BS, and investing forums organized everywhere promoting the stocks and the “Golden Rule”. With the high quarter EPS of 10.15 sen, annualized with target price to RM3.00, RM4.00 etc. The share price went all the way up to RM1.70 in a month. The promotors swear they would hold the stocks to at least RM2.50, or even RM4.00, and cursed those who sold the shares early as ”stupid”.
How would a contrarian profit from this?
A contrarian who is knowledgeable and widely read would probably know the crude oil price has climbed back from a low of $30 a barrel to $60 a barrel some time at end of year 2017 and major oil companies had started capital expenses after laying off for a few years. The Petronas Activity Outlook (PAO) for the 2018 to 2020 period also showed more demand for the downstream and the upstream maintenance kind of works. It is expected that there will be more demand for topside maintenance, which will benefit maintenance, construction and modification contractors (MCM) like Dayang Enterprise Holdings Bhd.
A contrarian investor who is knowledgeable in the analysis of financial statement would have found that the share price at 70 sen and below was attractive and bought the share due to the good cash flows of the company despite the accounting losses it incurred, and the masses shun it. When the fear of the investing community was exaggerated due to trade war and internal political uncertainties, the contrarian investors would continue to hold the shares and even bought more when the share dropped further to 50 sen.
When the fear is present, everyone sells, and the contrarian buys. Of course he must know what he is doing and the high probability the he is right with the knowledge he has, better than the crowd.
What happened when the investing community was euphoric on Dayang when its share price rose to RM1.70, and with the target price of RM2.50, RM3.00 or even RM4.00?
The “Golden Rule” and the momentum players continued to write numerous articles in the internet promoting the shares and their rules. Ini kali lah, they shouted, and everybody bought and keep on buying.
A contrarian would pause and think;
Has the share price gone up too fast too soon?
What about the law of mean reversion in investing?
What has changed so much that the share price could double and triple in just a month?
What about seasonality?
What should I do when everyone is euphoric?
What should I do when everyone is buying?
The share price of Dayang consolidated around RM1.50 after three investment banks downgraded Dayang after its steep rise in a short period of time. Its share price plunged below 90 sen after the release of its first quarter result 2019 in May 2019 when it incurred a small loss, instead of another increased profit as forecasted by the “Golden Rule”.
The share price of Dayang closed at RM1.05 today on 13th June 2019.
What would a contrarian do next? That is the pertinent question.
Please, I have no intention to promote this stock, neither do I condemn it. I have also never said I have done the above. This is purely used as an illustration of a contrarian strategy.
I have written a eBook on personal finance and investing, not just on contrarian investing. Anyone interested please email me at,
ckc13invest@gmail.com
It is free.
KC Chong
Appendix
Dayang’s Quarterly results
https://klse.i3investor.com/blogs/kcchongnz/210548.jsp
