Taken a look at Europe recently?
Amazingly, the region delivered some of the best stock market returns of 2012, with gains of about 20 per cent. That outpaced Canadian stock market returns by a factor of five.
On the surface, this is a head-scratcher. Europe is home to a sovereign-debt crisis, a currency crisis, a debilitating recession and double-digit unemployment – hardly the sort of backdrop you would imagine for big-time investment returns.
However, the backdrop is exactly what contrarian investors like to see: Conditions so brutally awful that the potential upside outweighs the downside.
In other words, Europe in 2012 was so down, it looked up.
Some observers might bristle at that description, arguing that buying Europe in 2012 was for high-risk investors only. Gamblers, perhaps – and the gamble just happened to pay off.
But the inverse is closer to the truth. With major European indexes by mid-2012 challenging lows seen during the depths of the financial crisis three years earlier, the bad news – fears of a banking crisis, credit defaults and the end of the euro – seemed largely priced in. The risk of losing seemed low.
The benefit of buying stocks during grim times has plenty of precedent. It spawned the oft-repeated line attributed to Nathan Mayer Rothschild: “The time to buy is when there’s blood in the streets – even if the blood is your own.”
And there’s Warren Buffett’s contrarian approach: “Be fearful when others are greedy, and be greedy when others are fearful.”
The problem is that investing good money during bad times is easier said than done, which is why few investors do it. Most investors like good times.
Indeed, there are signs today that U.S. investors are warming up to stocks only after the S&P 500 has risen some 120 per cent since early 2009.
The American Association of Individual Investors showed in its weekly poll that bullishness among small investors is close to 44 per cent, above the long-term average of 39 per cent.
And in the first week of January, investors flooded into equity mutual funds and exchange-traded funds after the resolution of the so-called “fiscal cliff” crisis in December.
If bad news makes a better entry point, then where are the bad news stories today?
In the case of Europe, investors have taken great solace from the European Central Bank’s pledge in 2012 to do “whatever it takes” to save the euro. Other moves by the central bank have reduced the threat of a banking crisis.
But the economy is still a mess, with even German economic activity now contracting, and stocks are still 30 per cent below highs seen before the financial crisis.
Resource companies also look ugly, with ongoing concerns about the global economy and rising production costs. Canadian materials stocks – which include beleaguered gold producers – have slumped nearly 30 per cent over the past two years.
And then there’s Japan, an economy that serves as a warning for most of the developed world as it struggles with an aging workforce and deflationary pressures.
The country’s stock market has been disappointing investors for more than two decades, to the point where most have simply given up on it.
But capitulation is one of the best reasons to get interested in an investment. When you see it, go ahead and feel greedy.
READERS: Did you bet on Europe in 2012? What was your best pick? Do you think only the bold bet on bad times?