The contrarian mindset: The battle against behavioural biases

By Jayson Forrest

Going against our behavioural instincts is difficult and it’s no different for contrarian investing. Lukasz de Pourbaix (Fidelity International) explains why investors should consider contrarian strategies in a portfolio

Lukasz de Pourbaix (Fidelity International) explains why investors should consider contrarian strategies in a portfolio.
Lukasz de Pourbaix is Global Cross Asset Specialist at Fidelity International is Global Cross Asset Specialist at Fidelity International
Lukasz de Pourbaix - Fidelity International
Fidelity International

Sitting at the heart of contrarian investing is ‘being different’. It’s an investment style in which investors purposefully go against prevailing market trends by selling when others are buying and buying when most investors are selling. Perhaps the most famous contrarian investor is Berkshire Hathaway Chair and CEO, Warren Buffett.

“The sense of belonging is hardwired into us, so being different from the crowd is uncomfortable,” says Lukasz de Pourbaix — Global Cross Asset Specialist at Fidelity International. “There is an embedded aversion to being different and to being contrarian.”

In a presentation on contrarian investing at the 2024 IMAP Portfolio Management Conference in Sydney, Lukasz challenged some of the misconceptions surrounding contrarian investing. He believes there are two key reasons why investors should consider strategies that are more contrarian:

1. Dispersion: We are in a period of significant dispersion in returns across regions, sectors, and stocks.

2. Momentum hedge: There are significant parts of the market that are being fuelled by momentum, both positive (stocks going up) and negative (stocks going down).

“When considering these reasons, it doesn’t mean being different is going to be correct. However, it does at least warrant investors exploring the opportunities in contrarian investing, as a result of these trends in ‘dispersion’ and ‘momentum’,” says Lukasz.

Contrarians invest in unloved companies and their return on investment is asymmetrical. They can be out of the market for an extended period of time and when they do get their performance back, it tends to come back very sharply in a short period of time

Lukasz de Pourbaix

Overcoming behavioural biases

For Lukasz, the key to contrarian investing is being able to think deeply and critically, enabling investors to thoughtfully consider the counter cyclical view to prevailing mainstream thinking. 

“Unlike value investing (which invests in stocks/groups of stocks that look ‘cheap’) and mainstream investing (which is generally tilted towards quality, where investors invest in ‘well loved’ companies with a good story), contrarian investing generally doesn’t have a good story,” he says.

“Contrarians invest in unloved companies and their return on investment is asymmetrical. They can be out of the market for an extended period of time and when they do get their performance back, it tends to come back very sharply in a short period of time.

“So, contrarian investing is not for the faint-hearted. Contrarians need to stay positive against very loud negative biases. You need patience and to be comfortable about going against the investing herd.”

However, Lukasz acknowledges that overcoming behavioural biases when investing — such as investing with the herd (the feeling of comfort and safety when investing with the crowd), loss aversion (feeling losses more than gains) and social validation (recognition from others) — does make contrarian investing a tough sell for investors.

“Whether you’re a fund manager, adviser or an investor, we’re all prone to these behavioural biases because it’s human nature. The challenge is changing that mindset, which may seem counterintuitive. But by doing so, you can become more rational and logical in the way you think, which is essential when investing.”

Contrarian investing is not for the faint-hearted. Contrarians need to stay positive against very loud negative biases. You need patience and to be comfortable about going against the investing herd

Lukasz de Pourbaix

Momentum doesn’t work all the time

According to Lukasz, momentum investing — a style factor that seeks increased exposure to companies that are outperforming and decreased exposure to companies that are underperforming — is fundamentally the opposite of contrarian investing.

And while momentum has been proven to work most of the time, it is particularly effective over short periods, like 6-12 months. So, why then would you go against momentum, when contrarian investing is the antithesis to momentum investing?

“It’s a good question,” says Lukasz. “The reason why you would consider contrarian over momentum is that there are periods of market dislocation, like during the Global Financial Crisis (GFC), when momentum doesn’t work. When this happens, markets dislocate and the momentum factor crashes. This can happen in any market environment where there is a big dislocation, such as the GFC, where everything in part of the market correlates and drops.

“So, while momentum works most of the time, it doesn’t work all of the time, and that’s where contrarian investing comes in.”

Whether you’re a fund manager, adviser or an investor, we’re all prone to these behavioural biases because it’s human nature. The challenge is changing that mindset, which may seem counterintuitive. But by doing so, you can become more rational and logical in the way you think, which is essential when investing.

Lukasz de Pourbaix

Contrarian strategies

Contrarian investing is a long-term investment strategy and is not suited to investors who may have a short-term view on a stock. That’s because holdings can be out of favour for an extended period of time, making an investor’s return profile very asymmetric in nature.

Instead, Lukasz prefers to think about a contrarian strategy as a hedge against momentum. For example, a contrarian strategy can run as a satellite exposure to the core (momentum). By doing so, investors can safeguard against any dislocation in the market.

“You may not put 20 per cent of your book into a contrarian strategy, but you may have a 5 per cent allocation, which will provide you with diversification and a hedge, should the market consensus not play out,” says Lukasz. “So, there is a definite role for contrarian investing as part of a wider investment strategy.”

When it comes to contrarian investing, Lukasz believes stock picking is king. For investors considering this style of investing, he says it’s important they understand the typical characteristics of a contrarian portfolio. These are:

  • Contains unloved ‘broken’ businesses;
  • High active share, which means you won’t look similar to the benchmark;
  • High tracking error;
  • High stock specific and idiosyncratic risk;
  • Risk of value traps:
  • Negative exposure to momentum factor;
  • Low correlation to market benchmark;
  • Long-term investment horizon; and
  • Can be out of favour for lengthy periods of time.

Being different from the crowd is uncomfortable, but contrarian investing does provide opportunities for investors in terms of dispersion and a momentum hedge. It is a long-term strategy that requires patience and is worth consideration

Lukasz de Pourbaix

Worth thinking about

When considering contrarian investing, Lukasz concedes this style of investing is a psychological counterbalance to the behavioural instincts of most investors. It’s also a style of investing that does expose investors to high stock specific risk and idiosyncratic risk, which is very different from the benchmark.

But it’s also a style of investing that does allow investors to get a hedge against momentum, should that not play out in their portfolio.

“Being different from the crowd is uncomfortable, but contrarian investing does provide opportunities for investors in terms of dispersion and a momentum hedge,” says Lukasz. “It is a long-term strategy that requires patience and is worth consideration.”

About

Lukasz de Pourbaix is Global Cross Asset Specialist at Fidelity International.

He spoke on ‘The Contrarian Mindset: The battle against behavioural biases’ at the 2024 IMAP Portfolio Management Conference in Sydney.

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