Jewish World Review July 12, 2001 / 21 Tamuz, 5761
James K. Glassman
Nothing’s arbitrary about the contrarians
HISTORY’S greatest investors have found lots of different ways
to get rich. Warren Buffett likes to become a partner in a
great business with a huge and loyal customer base. He’s long
been a fan of dominant local newspapers, for example.
Benjamin Graham, Buffett’s mentor, used to ignore what
businesses actually did, so he could take an unbiased look at
the financials. Philip Fisher’s approach was to hit the road and
visit companies to take the full measure of management
mettle. (Each one is profiled in John Train's excellent book,
Money Masters of Our Time.)
Yet all successful investors have, by definition, had one thing
in common – they all found a way to identify value before it
was recognized by the broader market. To put it another
way, all great investors are contrarians. They invest in
companies that the market has given up on, or has never
really appreciated. Obviously, nobody got rich buying Cisco
when the whole world thought it would increase earnings by
50 percent every year. But those who bought Cisco back
when most investors still thought it was some kind of food
distributor made enormous gains.
The biggest opportunities often arise when a giant has
stumbled. After a huge corporation runs into trouble,
investors often flee without appreciating how much staying
power a major multinational can have. This does not mean
that every company whose stock declines is cheap and
destined to rebound. Prices can always go lower, and some
companies keep stumbling all the way out of business. But
markets often overreact to bad news, just as they do to good
In fact, buying on bad news can be highly lucrative. The
“Dogs of the Dow” strategy, variations of which involve
buying the highest-yielding Dow stocks or the firms with the
lowest price/earnings ratios in the index, has generated
excellent returns. If a company is paying a high dividend,
relative to its price, that means that investors don’t have
much faith in the company. Basically, the company has to pay
them a lot of money each year to hold on to the stock. On
the other hand, investors don’t demand a nickel of dividends
from Microsoft, because they believe that by reinvesting their
money today in new products, Bill Gates will create even more
wealth for them in the long term.
Similarly, a low price/earnings, or P/E ratio, says that
investors don’t think the company has a very bright future,
because they’re not willing to pay much for each dollar of
earnings. And when other investors think a company is
headed for trouble, that often spells opportunity. For the true
contrarians in the tech world, Smartmoney.com, an excellent
personal finance website, recently set out to identify the
unpopular but potentially rewarding companies in techland.
“We decided to look for the stocks investors most hate at the
moment. The stocks they scorn. The ones they despise,”
reports Smartmoney’s Cintra Scott. “We tuned our search
engines to find companies that are both beaten down and
promising.” That means companies scorned by investors,
inexpensive relative to their current earnings, but with
histories of strong growth, modest debt, and good prospects
for the long term.
You might consider a number of the market pariahs on
Smartmoney’s list. Corning (GLW) makes the glass fibers in
fiber-optic telecommunications networks. After falling from a
52-week high of $113, the stock has been bouncing around in
the $13-$15 range. The telecom sector has been beaten up
lately, but this is a world-class supplier of critical components
and most analysts see strong worldwide growth in this market
over the long term.
Another firm with lots of telecom clients is Dycom Industries
(DY), which handles the construction of new networks. At a
P/E ratio of about 13, Dycom already has a lot of bad news
built into the price of its shares. It’s fallen from $56 down to
$22. Any good news in the telecom industry could spark a
Tellabs (TLAB) makes telecommunications hardware for the
latest digital networks, and its stock has fallen more than 60
percent from its high. With a P/E around 9, TLAB also looks
attractive to those with a contrarian streak.
If the economy rallies soon – and that’s not an unlikely
prospect – current prices could look awfully anachronistic.
Sure, there are no guarantees; there never are for contrarian
investors, but that’s why they make so much money when
JWR contributor James K. Glassman is the host of Tech Central Station. Comment by clicking here.
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