Contrarian Investment Strategies

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Caractéristiques

Auteur : David Dreman
Titre original : Contrarian Investment Strategies
Publication : 1998
Editeur : Simon & Schuster
ISBN : 0-684-81350-5
Nombre de pages : 464
Prix : 27,71 euros

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4ème de couverture

"This book is packed with revelations about modern investing.... Many of Dreman's opinions break new ground and will undoubtedly stimulate controversy, even fierce criticism. But every opinion is also rigorously backed by a wealth of objective data. The book offers a precise blueprint for investing successfully with a minimum of risk."

--JAMES COXON, Barron's

"Dreman is the grand master of a simple yet psychologically challenging investment strategy : consummate contrarianism."

--NOELLE KNOX, The New York Times

"Dreman is the king of the contrarians....Contrarian Investment Strategies: The Next Generation makes an important new contribution: a novel way to analyze risk."

--JAMES K. GLASSMAN, Syndicated Columnist, The Washington Post

"There are relatively few good money managers or good writers on investments. David Dreman is both. In Contrarian Investment Strategies: The Next Generation, Dreman's focus on the understanding of 'risk' should free investors from the mathematical traps of so-called risk measurement. In plain language, Dreman explains that the real risk is in investments that underperform for your needs and expectations. This is a great book for all investors, laymen and professionnal alike."

--A. MICHAEL LIPPER, President, Lipper Analytical Services

"Its intellectual depth and thoroughly tested advice make many other investment books look paltry and superficial by comparison. Serious, independant investors will find it rewarding."

--BARRY MITZMAN, PBS TV

"Destined to become a classic... Contains lots of material that will jolt top money managers and academics."

--EVAN SIMONOFF, Editor in Chief, Financial Planning

"Skip the academics and just read Dreman."

--DON PHILLIPS, President and CEO, Morningstar, Inc.

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Rabats de la jaquette

      David Dreman's name is synonymous with the term "contrarian investing," and his contrarian strategies have been proven winners year after year. His techniques have spawned countless imitators, most of whom pay lip service to the buzzword "contrarian," but few can match his performance. His Kemper-Dreman High Return Fund has been the leader since its inception in 1988--the number one equity-income fund among all 208 ranked by Lipper Analytical Services, Inc. Dreman is also one of a handful of money managers whose clients have beaten the runaway market over the past five, ten, and fifteen years.

     Now, as the longest bull market in the history of the stock market winds down, there is increasing volatility and a great deal of uncertainty. This is the climate that tests the mettle of the pros, the worries of the average investor, and the success of David Dreman's brilliant new strategies for the next millenium.

     Contrarian Investment Strategies: The Next Generation shows investors how to outperform professional money managers and profit from potential Wall Street panics--all in Dreman's trademark style, which The New York Times calls "witty and clear as a silver bell." Dreman reveals a proven, systematic, and safe way to beat the market by buying stocks of good companies when they are currently out of favor. At the heart of his book is a fundamental psychological insight: investors overreact. Dreman demonstrates how investors consistently overvalue the so-called "best" stocks and undervalue the so-called "worst" stocks, and how earnings and other surprises affect the best and worst stocks in opposite ways. Since surprises are a way of life in the market, Dreman shows you how to profit from these surprises with his ingenious new techniques, most of wich have been developped in the nineties. You'll learn

• Why contrarian stocks offer extra protection in bear markets, as well as delivering superior returns when the bull roars.
• Why a high dividend yield is just as important for the aggressive investor as it is for "widows and orphans."
• Why owning Treasury bills and government bonds--the "safest investments" for centuries--is like being fully margined at the top of the 1929 market.
• Why Initial Public Offerings are a guaranteed loser's game.
• Why you should avoid Nasdaq ("the market of the next hundred years") like the plague.
• Why crisis, panic, and even market downturns are the contrarian investor's best friend.
• Why the chances of hitting a home run using the Street's best research are worse than being the big winner in the New York State Lottery.

      Based on cutting-edge research and irrefutable statistics, David Dreman's revolutionary techniques will benefit professionals and laymen alike.

      

      DAVID DREMAN is regarded as the "dean" of contrarians by many on Wall Street and in the national media. Dreman is the Chairman and Chief Investment Officer of Dreman Value Management, L.L.C., of Red Bank, New Jersey, a firm that pioneered contrarian strategies on the Street and manages over 4 billion dollars of individual and institutional funds. The author of the critically acclaimed Psychology and the Stock Market and Contrarian Investment Strategy, Dreman is also a senior investment columnist at Forbes magazine. Articles dealing with the success of his methods have appeared in The New York Times, The Wall Street Journal, Fortune, Barron's, Business Week, Newsweek, and numerous other national publications. He resides with his wife and two children in Aspen, Colorado, and on the family yacht, The Contrarian.

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Introduction

      Through the summer of 1997 the Dow Jones Industrial Average hit new high after new high, continuing the breathtaking advance it began seven years earlier. It took ninety years for the Average to make its first thousand-point gain. Now it hurdled each new barrier in a matter of months. Since the beginning of 1996 the Dow had risen a staggering 3,000 points, and from the autumn of 1990 it had almost quadrupled.
The rise had caught virtually every expert flat-footed. Back in 1990, most firmly declared that the Great Bull Market that had begun in 1982 was over. A level to moderately down market was the best that could be expected. For years the forecasters were confounded by the rise--although they were loath to admit it. But as the averages exploded, so did their confidence.

      By the fall of 1997, the market has become increasingly volatile, plunging hundreds of points in a single session only to more than recoup the loss in the next few trading days. Then, on october 27, it plummeted 554 points, the largest daily point drop on record, before again approaching an all-time high in January, 1998. The high volatility continued through the end of 1997 and into the new year. What was going on? In the future, there will, of course, be retrospective answers, or at least you will know what the market did next. But hindsight, in and of itself, has never made an investor money.

      Some things were clear to me as I wrote this introduction in the first weeks of 1998. We were in a raging Bull Market, one so powerful that it eclipsed any other of this century. Never before in the 101-year history of the Dow had it risen over 20% for three consecutive years, or quadrupled in seven. Never in my recollection or in my study of previous markets have I seen such widespread investor enthusiasm for stocks-- even including the run-up prior to the 1929 Crash. The price of stocks, relative to what we call "fundamentals," is higher than in 1929 or in 1987, the years of the two great market crashes of the twentieth century.

      This market is different, said many experts who called it a "new era." The last time this consensus was prevalent was just prior to the 1929 Crash. Some have gained international reputations for calling the shots to date. Abby Joseph Cohen, of Goldman Sachs, a gracious and intelligent professional, is the most acclaimed market strategist of our day. Abby towers over all the other forecasters because of her accurate calls on the skyrocketing market for the past few years. Ed Yardini, the chief economist of Deutsche Morgan Grenfell, is another "Wall Street Wizard," as he was recently dubbed by a national financial periodical, for being right on the course of the market and heralding a Dow of 15,000 by the year 2005. Or as yet another money manager put it, "With fundamentals like these, what valuation do you put on this market?" Whee!

      I've been here before. I came to Wall Street from my native Canada back in the mid-sixties. I'd hardly unpacked my bags and got my first job on the Street when, along with everyone else I knew, I was swept up by the "go-go" market of the time. Back then the rage was exciting concept companies. We were all making many times our salaries buying them. In fact, a Street job was only the ticket to stay close to the game; our salaries seemed inconsequential--or so we naively thought. After all, the stocks we owned, like University Computing, Lesco-Data Processing, or National Student Marketing didn't just double. No indeed. They shot up five, ten, even twentyfold, all in a couple of years. In our eyes, investors who bought the staid old blue chips were fossils. They simply ignored the enormous money to be made in these fast-track stocks. Experts and average investors all agreed this market was unique.

      It wasn't. Within months many of these sizzlers were down as much as 80% or 90%. Many of my colleagues not only lost their tenfold gains, but also their initial capital. I was luckier. Having studied market manias, I came out alive, but still left the better part of my gains on the table.

      This humbling experience increased my curiosity about markets. In researching one of my earlier books, I logged a lot of library hours reading the daily financial pages from the years before 1929 to try and get a feel for the prevailing mood of the time. How could those silly investors in the era of flappers and speakeasies really think stocks could go up forever? It was hard to believe they did not realize the enormous folly they were swept up in. Of course, they could not see the future, but it was easy for me to smile, knowing the ending.

      But as wild as the prevailing enthusiasm was in these periods, what's out there today seems to be in a different league. A historian reading about this market, at the turn of the twenty-second century, might chuckle at the obvious aberrations taking place now, just as I was amused looking back at 1929. Perhaps he or she will wonder, what were those late-twentieth-century investors smoking?

      Once again, the experts state, "nothing can stop this market," and the public believes. The public backs that belief with a good part of its hard-earned savings. As a result, the number of American households owning stocks and the size of their holdings dwarf any period in the past.

      Yes, many of us have heard it all before. But even hearing it and going through the gut-wrenching experience of portfolios literally melting away, as investor perceptions change suddenly and sharply, does not prevent most of us from continuing on a course that almost certainly will end in disaster.

      But it doesn't have to be this way. There are methods to determine whether individual stoks or markets really are too high or too low, as well as how to consistently benefit from this knowledge. As this book will explain, in a period of ebullience, you should have a method to know that it is time to dive into the nearest bomb shelter, or better yet, evacuate from the market in an orderly fashion. One thing I can predict: it is almost axiomatic thet the wild enthusiasm of today will be met with the equally unwarranted pessimism of tomorrow.

      Yes, the times are very different from when I published The New Contrarian Investment Strategy in September of 1982. Back then the market had gone nowhere in seventeen years, and, adjusted for inflation, the Dow was almost back to its prices of the depressed thirties. People were buying art, collectibles, diamonds, precious metals--anything but stocks. All this, as hindsight tells us, just before the greatest bull market of the century began in the late summer of 1982.

      I wondered back then if the American Stock Market was not one of the last truly undervalued investments left. I stated that the rally that had begun in August of that year might be only the opening salvo of a major bull market, possibly one that would go as far or even farther than any we have seen in this century. I asked, "If this is true, why is it so little recognized?"

      Both my conclusion and the question come from a method of investment analysis I had first developped in the mid-seventies. I called it then--and it is now generally known as--"contrarian strategy." I thought I had made a revolutionary discovery. The evidence overwhelmingly demonstrated that the original contrarian strategy--the low P/E approach--had worked flawlessly for decades. What's more, it was relatively simple to use.

      It seemed so obvious. Like a miner who had struck gold, I believed the "claim jumpers" would arrive in droves. The contrarian ideas would be scooped up immediately, soon outdistancing my years of work, perhaps even before my first book was published. Today I know nothing is further from the truth.

      Is it because contrarian strategies have proved to be a bust? No, they work far better than I would have hoped twenty years ago. This completely new work, in fact, represents a major expansion of contrarian methods from my original books in the late seventies and early eighties, a result of important new findings in the past few years. Back then, the low P/E method was the only contrarian strategy that had been proven over decades. In this work, I will introduce four new strategies. These substantially expand the contrarian tools available to you. These new strategies can often be used in conjonction with the original low P/E strategy of my earlier books, or in many cases enhance your returns on their own. All have been tested with large numbers of stocks for periods up to fifty years, and display outstanding records. A number of recent academic studies corroborate this exciting work.

      The book is written for both the individual and the professional investor, in what I hope is a nontechnical and easily readable style. There are a variety of strategies, some simple, others requiring more experience, but all should allow you to handily outperform the market--no small feat, as we shall see in the opening chapter. Even the detractors of contrarian methods concede this much.

      These strategies have succeeded for me personally, but more important they have provided returns well above the market (as well as those of all but a small percentage of investors) for almost two decades for the hundreds of clients of our firm, Dreman Value Management L.L.C., and the hundreds of thousands of clients in the Kemper-Dreman High Return Fund. This Fund, which I have managed since it started, has been ranked, by Lipper Analytical Services, the major mutual fund ranking organization, as the top fund out of 255 in its peer group for the ten years of its existence. It has also been ranked number one in more time periods than any of the 3,175 funds in the Lipper database.

      Yet a perplexing question remains: If contrarian strategies work so well, why aren't they more widely followed? This is the second important part of the work. It is not enough to have wining methods, we must be able to use them. It sounds almost simplistic, but it isn't. Sure, the methods are easy to understand and initiate. But most investors, whether professional or individual, even with the best of intentions, cannot follow through.

      There is an enormous but little recognized barrier in the way--investor psychology. A barrier so formidable that it bars all but a few, who intellectually or intuitively understand its workings, from using the strategies consistently. The success of contrarian strategies requires you at times to go against gut reactions, the prevailing beliefs in the market-place, and the experts you respect. All of us pride ourselves to some extent on our individualism and ability to tough it out using our own thinking. In practice, as the investor psychology we will examine demonstrates (and as my experience bears out), it's a nightmare. I kid you not, nor do I exaggerate. That is the bottom line of why contrarian strategies are so rarely followed.

      In the process of developing these strategies, I have had the privilege of talking to some of the leading psychologists studying market decision-making. Although they have provided outstanding research identifying many behavioral errors, they have not as yet fully recognized just how lethal these psychological pitfalls are for investors.

      It is one thing to have a powerful strategy; it's another to execute it. In 1862, George McClellan, the Union general who built and commanded the powerful Army of the Potomac, was considered a brilliant strategist. Not only did he have superior numbers when Lee and Stonewall Jackson invaded the North in the early fall of that year, but McClellan had an amazing stroke of luck.

      The Union army had captured a set of plans that outlined the Confederates' routes of march, their strength, and their dispositions. McClellan had the information that would allow him to annihilate the Rebel forces, and, possibly, end the war. But he dithered, throwing away his powerful advantage, and then froze at the battle of Antietam, where the Confederates could have been mauled. The Confederate battle plans should have given him an enormous victory, but the contradictory information flowing in from his intelligence-- about enemy lines of march, strength, and objectives--paralyzed him. The winning strategy was in the General's hands, but he was psychologically incapable of executing it.

      An important aspect of this book, then, is investor psychology. The strategies by themselves are not dissimilar to McClellan's situation after capturing the Confederate battle plans. In the marketplace, we too face anxiety, an enormous amount of uncertainty, market noise, and severe consequences from bad decisions. The strategies do not look nearly as clear-cut under these circumstances. If they don't work for a while, most people, even those with strong convictions, quickly discard them.

      Without understanding investor psychology and how it affects us all, contrarian strategies, like Lee's captured marching plans, are unlikely to be successfully utilized. This is the reason why most people cannot use these strategies even though they are known to have provided superior results for years.

      What I hope to show is that, although the study of investor psychology is still in its early stages, there is a body of research conducted by outstanding psychologists in recent decades, that provides us with patterns of predictable investors errors. These errors are so systematic that the knowledgeable investor can take advantage of them. It is upon this behavior that my contrarian strategies are founded.

      The major thesis of this book is that investors overreact to events. Overreaction occurs in most areas of our behavior, from the booing and catcalls of hometown fans if the Chicago Bulls or any other good team loses a few consecutive games, to the loss of China and the subsequent outbreak of McCarthyism. But nowhere can it be demonstrated as clearly as in the marketplace. Under certain well-defined circumstances, investors overreact predictably and systematically. This well-documented discovery has sweeping implications within the fields of finance and economics, as well as in many other areas. It is also the key to improving your investment performance.

      The research demonstrates conclusively that people consistently overprice the "best investments," be they growth stocks, initial public offerings, or companies involved in telecommunications. Just as consistently, they underprice the "worst." The "best" investments are not always exciting domestic stocks. They have been precious metals and collectibles in the 1970s, real estate in the 1980s, or investing in the emerging Asian markets in the past few years.

      Similarly, "worst" investments change with investor perceptions. In late 1993, investors disdained pharmaceutical and other health-care stocks. They believed these industries would lose most of their value if the Clinton administration passed its health-care plan. As a result, they drived to lower relative levels than at any time since World War II. Yet over the next few years, they became leading market performers. In 1991 and 1992, many computer issues were tought to be poor investments. Subsequently, they led the market for years, many doubling, tripling, even tenfolding.

      What our new work shows is that the overvaluation of "best" and the undervaluation of "worst" stocks often goes to extremes--so much so that earnings and other surprises affect "best" and "worst" stocks in a diametrically different way. Chapter 6 will show you the new, well-documented conclusions that all surprises, both good and bad, bode well for out-of-favor stocks, but bode ill for favorites. Since surprises are a way of life in the marketplace, this knowledge will be a potent tool in our new investment strategies.

      The overreaction theory, although revolutionary, is elegant in its simplicity. People, as chapter 11 demonstrates conclusively, are consistently too optimistic about stocks that appear to have good prospects and too pessimistic about those having so-so outlooks. Investors overreaction underlies and supports the new investment methods that will be outlined in this book. The strategies we will examine based on this theory can dramatically increase your odds in the marketplace.

      My approach will try to accomplish two major functions. Before all else, a successful strategy requires a strong defense: it must preserve your capital. The strategies herein are designed to protect investors from powerful emotional pitfalls. After defense, we need a powerful offense. We achieve this by taking of consistent mistakes made in markets because of predictable behavior patterns. Both parts of the strategies rely on an understanding of investor psychology.

      The new work in psychology explains why people in markets often behave like crowds at a theater fire. In one age the rage was tulips, in another collectibles, in another stocks or real estate - but at any moment, most investors rush for the same door at once, and many get trampled.

      The bottom line of these methods is, of course, to make money. The strategies we will study are down-to-earth, disciplined, and - most important - have proven successful. Using the approach and the new tools I will outline, you should be able to enhance your investment performance.

      No investment strategy should be followed blindly, and a good part of this work is devoted to explaining why my methods work. The ideas, although not complicated, require an understanding of investor psychology and the discipline to carry it through. When you understand them, you can avoid the mistakes of both the market's pros and it's "patent medicine men." Both the theory and the methods , then, are simple. But you will still have to avoid some tricky psychological pitfalls, especially in crisis. Knowing these principles won't make it a cakewalk. It is hard to stay unaffected by psychological pressures, as I've too often found in free-falling markets. No matter how often you've been there or how much you've read, you can't escape the fear. But as chapter 12 will demonstrate, you can still act on and profit from the situation.

      A number of key chapters cover other important aspects of investor psychology that are essential to successfully utilizing these strategies. Chapters 4 and 5 look at the advice of the investment expert in contemporary markets, and how it almost inevitably works against the investor. Chapter 10 examines the cognitive errors we all make as investors, and how we can avoid many of them, while chapter 16 analyzes the powerful influence of group and peer pressures on people. These often shape incorrect views on the outlook for the market or individual stocks.

      The psychology is well documented and leads to a number of decisional safeguards, wich I have listed as Rules, that if followed, can both prevent you from falling into the predictable errors that most investors make, and in many circumstances actually help you take advantage of them. Psychology is the necessary link required to activate the contrarian strategies we will examine. Armed with this knowledge, you have a good chance of beating the market. In fact, the awareness you can develop may prove one of your strongest assets in the years ahead.

      However, you should close this work or any other if the author says you can harness market psychology easily. Even the state-of-the-art research findings in the fields - which I will present - will not accomplish this objective by itself. No, even knowing the strong odds a strategy will work, you will be faced with immense psychological pressures to follow exactly the opposite course. Only by understanding how powerful the tug of these forces can be will you be able to harness them. Without this understanding, I'm afraid no book is going to improve your investment results all that much.

      The final aspect of the book is the influence on the reader of widely accepted but spurious investment thinking. Our inherent psychological makeup is not the only danger to our investment health. Not only do we need usable strategies, and the ability to execute them, we must also avoid the all-permeating influence of powerful but fallacious investment mores of our time. There are a number of seductive theories that have dominated the mainstream of Wall Street thinking for years, wich can beckon you away from the proven approaches we'll examine. We will also look at the major intellectual fads of the day to see how they hold up in practice, as well as some of the torpedoes hidden within the current framework of "smart" investing.

      Much of contemporary practice is tied to this mistaken lore. The concepts are similar to mass-media advertising - you accept the brand names well before you know what's in the package. While this work is not a tract on investment theories, to successfully implement contrarian strategies you must understand why some methods work while others consistently fail.

      In particular, the book will deal with the efficient market hypothesis, the most powerful investment theory of the twentieth century, wich states that nobody can beat the market over time. This theory permeates virtually every aspect of investment practice today. Wether we are making decisions on the riskiness of portfolios, what mutual funds to buy, whether to buy smaller companies, or to put our savings into index funds, or foreign securities, we are, knowingly or not, following efficient market teachings -- almost all of wich have been discredited. For this reason, it is important to address this issue to clearly understand where these ideas originate, and where they go wrong.

      What we shall find is a theory built on air. Many of the things most of us accept as gospel, such as how to measure risk precisely, the need to diversify into foreign stocks, or that small stocks will provide us with better returns, simply are not true. Knowing why and structuring your portfolio accordingly can be of enormous benefit to you.

      As you can see, the successful implementation of contrarian strategies, wich at first glance appears to be a snap, really depends on three different but interlinking components. That is why I have laid out not only the contrarian methods, but the essential psychological guidelines necessary to use them, and the problems with the popular teachings of the day.

      Some of the work will be controversial, since it goes against popular beliefs and gores sacred cows. Recent work on analyst's earnings forecasts, for instance, points to an enormous and sustained error rate, wich is easily documented but cuts to the heart of analysts' raison d'être: providing accurate forecasts. I also challenge the popular belief that small companies have outperformed the S&P500 over time. The work further demonstrates that measures of risk used to evaluate mutual funds and money managers are seriously flawed, and can actually harm the invetor. In the course of this discussion, in chapter sixteen we will examine what the real risks are of investing in today's markets, and I will introduce what I believe to be a more realistic and accessible method to measure risk.

      I have fielded criticism from academic and professional experts for close to twenty years, some of it containing sharp personal attacks. Nevertheless, though the fusillades may have sent a few of my feathers flying - not to mention on occasion raising my blood pressure - they have never undermined the work.

      The book will also look at a number of important issues not related to contrarian strategies. The most important of these is how to invest for the long term. As we will see in chapter 13, the rules of prudent investing have been turned upside down in the postwar decades, yet your indvestment advisor, your banker or your broker, probably has little awareness of the fact. If you follow their advice, as well-meanings as it is, you will often come ip short in your savings goals. The work will also examine how to create tax-efficient portfolios, which are only now starting to get the attention they deserve. The subject deals with methods to protect yourself from taking inordinate long- or short-term capital gains, whether by managing your own portfolio or by placing it in the hands of an investment advisor or mutual fund.

      Another important topic that builds out of contrarian strategies how to react to a crisis. Though millions of words have been written about crisis and panic, a systematic approach to profiting from them has to this time never been presented. Crisis, as I hope to show you in chapter 12, provides enormous opportunity for those who can follow the guidelines that will be laid down.

      Finally, the book will provide a number of insights that my clients or I discovered the hard way, from being wary of "guaranteed" performance records of money managers and mutual funds, to staying clear of the hottest initial public offerings.

      I should note that on occasion I refer to important research studies both in psychology and in investing that I had presented in my earlier works, as a foundation for some of the new research. This material, however, comprises a small part of the work presented here. To improve the flow I have attempted to relegate footnotes, particularly those providing further detail on research findings, to the back of the work. At times however, I have retained footnotes at the bottom of the page where I thought they would be especially useful to the general reader.

      When I published Psychology and the Stock Market in 1977, I was half sure I would be drummed out of Wall Street, or at least ostracized, for some of the radical ideas the book presented. To my delight it was well received on the Street, with a number of professionnals telling me it was the book they, too, had been thinking of writing. So popular has the original contrarian thinking become in the past two decades, that the academic establishment has adopted it, after years of opposition, and proclaimed it their own.

      This book, like its predecessors, presents a very different approach to investing, one that is likely to be challenging - if not anathema - to many of the widely accepted ideas of the day. Whether it is attacked or not, the bottom line is that the methods not only work in theory, they also have been very successful in practice. I think I can promise you an interesting and rewarding trip, as well as a little fun along the way.

     So, sit back; enjoy. Nobody beats the market, they say.

     Except for those of us who do.

David Dreman
Aspen, Colorado
January 21, 1998

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