HOW CONTRARIAN THEORY BRINGS OUT THE STUPID IN SPECULATORS
Stupidity can be viewed in full abundance every single day in the financial markets. There are microscopic incidences such as when a retiree invests in a Chinese coal miner thinking that it will make a prudent investment for his family's future. Only to find out a short while later that what he thought was a coal manufacturer in China was an enterprise solely dedicated to targeting those who suddenly think that by reading an article about China in BusinessWeek they have the understanding necessary to become the American version of Zong Qing Hou. Stupid.
Then there are grand effigies built to the pursuit of stupidity. We saw a sweeping display of this recently when Bill Ackman of the hedge fund Pershing Square made a proud testimonial to his discoveries of fraud in the case of HLF. A two hour presentation documenting why he is the majority of HLF's short interest was on display for all to see. He may as well have walked through Harlem wearing a white robe and a pointy hood. Nothing says "I want a beat down" in the market like gloating in the face of all your peers about your enormous short position while tempting company management to come after you as you allege blatant fraud. No one wants to complicate their professional life that much...do they?
One area of the market where a perpetual form of stupidity is on display is in contrarian theory. I will start by saying that the core of my belief with respect to the markets is rooted in the fact that financial markets are inherently deceptive in nature. Deception is as core to financial speculation as a bid and offer. Therefore, it would make sense for me to embrace contrarian theory in the markets, as I do wholeheartedly. Seeing a sign posted on the wall of Paul Tudor Jones office reading "WHAT IS OBVIOUS IS OBVIOUSLY WRONG" when I first watched the documentary "Trader" in the 90s was a revelation. Being a contrarian is essential to success in the markets.
However, being a stupid contrarian is not. What is a stupid contrarian? One who simply looks at every indicator of investor sentiment that is pointing to anything remotely bullish and sees that as reason to believe that an end to an uptrend is within spitting distance. As an example, the buzz-worthy contrarian indicator of this past week was the fact that equity mutual fund inflows suddenly saw a spike in allocation not seen in years to start off 2013. This was automatically seen as an indication that the retail investor had returned to the market, thereby automatically putting a lid on any positive momentum the market may have for the next few months. Never mind the fact that we have seen a string of equity mutual fund outflows over the past several years that has been historic in nature. How many weeks of inflows to equity mutual funds would it take to negate that fact? More weeks than the average bear could maintain whatever short position they have taken to advantage of this supposed contrarian knowledge.
The next area of absolute stupidity in contrarian theory that has been a staple of every bull market since 1992 is the application of contrarian theory as it applies to the VIX. I always know that an amateur speculator has stumbled his way out of the kiddie pool and into the adult pool when I hear about how a low VIX must mean that a market top is imminent. If I had my way, whenever I heard this phrase the individual who uttered this ill-conceived mantra would be forced into a bird costume, put on the floor of the NYSE and laughed at by all floor traders and specialists. On down days in excess of one percent, they would be allowed to kick the individual. Two percent or more and you could suplex the individual from platform where they ring the opening and closing bell.
The VIX this week hit a multi-year low. I heard it mentioned several times. Not sure if it was a 4, 5 or 8 year low because I don't really care. Just know that it was a level that made the fur on the tail of all the monkeys stand up like they were in a Styrofoam factory.
You know another time the VIX hit multi-year lows? Early 2004. The VIX, in fact, was making multi-year lows that entire year. A consistent set of lower lows. You know what the S&P did in 2004? It was up eleven percent.
Wanna know another time the VIX made multi-year lows? Early 1993. Another year when the VIX, in fact, made a series of lower multi-year lows. You know what the S&P did in 1993? Ten percent on the upside.
You want to know when the VIX WASN'T sitting at multi-year lows? March of 2000. The peak of the internet bubble. Not even close to multi-year lows.
Market top of 2007. The VIX had made multi-year lows a full year and about 14% in the S&P 500 before the market made that important peak.
The examples are abundant in scope. Contrarianism, by nature, is a method of analysis that is easily manipulated to take on whatever shape you want. Those who choose to manipulate the statistics to fit their market bias are constantly jumping around the market for fear of imminent disaster. When disaster does actually strike they use that incident as the default sample to justify an erroneous methodology.
I think it is time to be short this week. Oh no, the equity put call is spiking, I want to be long now. Uh-oh, the AAII figure came out, I'm going to cash. As an investor, you will be tripping all over yourself attempting to gauge contrarian tools that are, frankly, no better than a coin flip at predicting anything market related.
Stupid contrarians be warned, there is a bird costume with your name on it waiting on the floor of the NYSE for any future infractions.
