Contrarian investing: Investors can bag a bargain by going against the herd

Published by Darius McDermott on 09 January 2019.
Last updated on 09 January 2019

It’s January, the sales are in full swing and shoppers are out in their numbers. Everyone loves a bargain, and investing should be no different. But the reverse is often true – it is one of the few areas of life where the more expensive something becomes, the more people seem to want to buy it.

Is it because we think there is safety in numbers, so we invest where everyone else is investing? Or we simply get caught up in the euphoria of increasing wealth? Maybe.

It is certainly the more ‘comfortable’ way to invest. Doing the opposite takes a lot more nerve and can feel very uncomfortable for long periods of time.

But it can also be very rewarding: if you buy something that’s cheap, I firmly believe you’ve got a better chance of making money over the long term. This is called a ‘value’ style of investing.

Cheap and cheerful

Value investing – or contrarian investing as it is sometimes called – is when you invest in ‘unloved’ companies.

For various reasons, the company is ‘out of favour’ and the share price will have fallen, becoming cheap relative to the business’s fundamental value and/or relative to the company’s own history. Investors are disregarding the company in favour of ones that look to be in better shape.

When investing in an unloved company, the trick is to avoid those that are either badly run or in terminal decline, as it is likely their share price will fall further and you could lose your money.

Instead, you want to invest in a good company that, for whatever reason, is going through a bad patch, but can turn its fortunes around and it will give you reason for cheer.

This is easier said than done, but there are some very good ‘value’ managers around who can do this for you. These are managers who buy shares that others ‘can’t, won’t or don’t’.

Bagging an investment bargain

Alastair Mundy is one of the best-known value managers in the UK. He manages the Investec UK Special Situations and Investec Cautious Managed funds.

Alastair describes his approach to stock selection as “looking in other people’s dustbins – every now and then we will find something of value that has been discarded”.

He will often invest in a company for four to five years to maximise its recovery potential. But this doesn’t mean he will stay invested until it becomes a ‘stock-market darling’ – the company may just return to being ‘average’, but will have increased enough in value to have made the investment worthwhile.

A lesser-known, but very good value manager is Hugh Sergeant, who runs the R&M UK Recovery fund. He believes there are “exceptional” opportunities in the world of value investing at the moment.

He likes undervalued companies that are yet to deliver on their potential, and where he believes management have the capability to turn things around. He is also not afraid to add to his holdings at almost fire-sale prices when markets are volatile or falling.

If you are looking for an equity income option with a value style, Lowland Investment Company is worth a look.

Managed by James Henderson since 1990 with the help of Laura Foll more recently in 2016, this investment trust invests around half of its assets in FTSE 100 companies and the rest in smaller and medium-size businesses.

As contrarian investors, the managers look for undervalued, out-of-favour stocks and are prepared to invest early and bide their time.

Another equity income alternative is Schroder Income. Nick Kirrage and Kevin Murphy have managed this fund since 2010. It is a deep-value fund, investing in companies that have suffered a severe business or price setback, but where the long-term prospects are good.

It has little correlation with other income funds, tending to avoid the big income producers in favour of more niche names, where both capital and income have the potential to grow significantly.

Darius McDermott is managing director at Chelsea Financial Services and FundCalibre

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. Darius’s views are his own and do not constitute financial advice. 

Leave a comment