Editor's note: Don't miss your chance to make outsized gains in 2023. If you're going to get ahead of 99% of investors, you need to stand out from the crowd. In this essay, which we published earlier this year, Brett Eversole explains why contrarian investing is harder than you might think... And he shares the right way to use it to your advantage.
"It's not supposed to be easy. Anyone who finds it easy is stupid."
Charlie Munger told that to Howard Marks over lunch in 2011...
Munger, as you probably know, has been Warren Buffett's right-hand man for decades as vice chairman of Berkshire Hathaway. And Marks is no slouch himself... He's one of the founders of Oaktree Capital Management, an investment company with well over $100 billion in assets.
Both men have built up many lifetimes of investment knowledge. Yet Marks felt the lunch was a great learning experience.
Munger's words might have seemed harsh. But they cut right to the heart of investing.
Today, I'll share what he means... and how it gives you – the individual investor – a leg up in the markets.
Once you think about it, you can see how important Munger's observation is...
Millions of people want to make money in the markets. With all that competition, earning outsized returns can't possibly be easy. If you think it is easy, as a lot of people do, then you really don't understand investing.
Marks felt this was so important, he used Munger's point to write the first chapter of his book The Most Important Thing.He titled the chapter "Second-Level Thinking." Here's how he described the idea...
Remember your goal in investing isn't to earn average returns; you want to do better than average. Thus your thinking has to be better than that of others – both more powerful and at a higher level...
For your performance to diverge from the norm, your expectations – and thus your portfolio – have to diverge from the norm, and you have to be more right than the consensus.
Different and better: that's a pretty good description of second-level thinking.
Here's Marks again, explaining first- and second-level thinking in practice...
First-level thinking says, "The outlook calls for low growth and rising inflation. Let's dump our stocks."
Second-level thinking says, "The outlook stinks, but everyone else is selling in panic. Buy!"
This is the framework of contrarian investing... something that we focus on here in DailyWealth.
The truth is that you have the potential to make the biggest gains when you buy what other investors hate... assets they've left for dead. That's when you get the best opportunities to buy, with the biggest potential to outperform.
But, as Marks said, your idea has to be different – and better. Making contrarian bets just for the sake of it is a terrible idea. The most important part is being right that the market is wrong.
Again, "second-level thinking" isn't easy. The hidden advantage, though, is that this is one way you can set yourself apart from the pack as an individual investor...
You've got no one to answer to but yourself. And that means you have the freedom to make contrarian bets – the hard bets – without worry of scrutiny.
That's not the case for guys like Marks or Munger. They have investors they must answer to... Plus, everyone in the world is watching what they'll do next. Even that alone makes it harder for the big-league investors to make (and hold onto) truly contrarian positions.
Most folks will tell you individual investors are fighting an uphill battle. After all, when you're competing with guys like these – who have billions of dollars to throw around – finding an edge can seem impossible.
This is one area where you have the advantage. Being a contrarian isn't easy... But it's one path to outsized returns.
"If you immediately take the opposite side every time a stock gets overvalued or a sector looks oversold, you're going to go bust very quickly," Dr. David Eifrig says. You need to go further to succeed at contrarian investing... Learn more here: These Three Steps Will Give You the Courage to Be Contrarian.
"If a stock has legions of fans and a can't-miss opportunity to take over the world... we don't want it," Doc writes. Buying overhyped stocks can lead to major losses. But that's not the only mistake investors are making these days... Read more here: Three 'False Financial Idols' to Avoid Today.