Short-term contrarian strategies don't work

Perma-equity bulls ThinkEquity (who recently changed their name, rather appropriately, to ThinkPanmure) are finding it tough to be bullish on stocks these days.

With the Dow reaching a 20% decline from its October peak and officially entering "Bear Market" territory, it's natural to feel beaten and broken. More depressing, globally, stocks had their worse first six months in 26 years and with direct correlation, there wasn't a venture backed IPO for the entire quarter for the first time in 30 years. General Motors, which was once and maybe again the proxy for the welfare of America ("how GM goes so goes the country"), fell to a market cap level it hadn't seen since Gerald Ford was passing out W.I.N. (whip inflation now) buttons and at one point on Thursday, was at a price it hadn't seen since Dwight Eisenhower was President....

While seemingly EVERYBODY is in the camp that we are heading into the bear infested woods, I'm much more optimistic. Two truisms come to mind; "if it's in the papers, it's in the prices" and "the time to be fearful is when everybody is greedy, and greedy when others are fearful"—these have provided an accurate compass in the past that I'm counting on today.

I'm not sure if they were around in ten years ago, but the S&P has been flat over a decade, losing to a 3% money market account by about 40%. Note that this is before the US enters a recession, which it has not technically done yet, and which historically have been lousy for stocks. If we see lower earnings plus flatter PE multiples, equity still has a long way down to go.

At any rate, I put the two truisms to the test by running a simple contrarian portfolio on updown.com. I'd check out the front page of the Financial Times and so the opposite of what it said.

This strategy did not work. FT said Lehman was on the verge of bankruptcy, so I bought. Stock went down another 20%. FT said Circuit City was on the verge of closing down, so I bought. Stock went down another 20%. FT said oil was overvalued so I shorted. Enough said.

Being contrarian based on what's in the papers gets you in too early, and too early is indistinguishable from wrong. Reflexive contrarians beware.