5 Contrarian Investment Plays

10/04/2011 9:15 am EST

Focus: GLOBAL

Nicholas Vardy

Editor, Bull Market Alert, The Alpha Investor Letter, and The Global Guru

The quickest fortune that long-term value investor John Templeton made was betting against Internet stocks in 2000. The ideas in the "Ultimate Contrarian Investment Portfolio" will help you do the same, writes Nicholas Vardy of The Global Guru.

True contrarian investors are made of sterner stuff than you and I are.

If you’re like most people, you may find it tough to buck market consensus—to go against what you hear and see in the media every day.

On one level, contrarianism is just about going against the grain. "Be fearful when others are greedy and be greedy when others are fearful," opines Warren Buffett.

But you’ve heard that so often, it’s become its own form of conventional wisdom. Everyone knows that the key to losing weight is "eat less and exercise." But "knowing it" and "doing it" are two different things.

More than that, you also have to be right. You can be contrarian and decide that the law of gravity "just isn’t for you." But step out of a ten-story window, and you’ll suffer the consequences.

This is how I like to use contrarian thinking: every once in a while, I like to take all mainstream investment opinions—and turn them on their head, just to rattle my brain.

You should try it, too. You may not necessarily be right. But it’ll force you out of your intellectual comfort zone. And I’m actually convinced that if you stick with it, you’ll become a better investor—and make more money—in the long run.

With that, here are five contrarian investment plays that you should mull for your own portfolio…

1. Buy the US Dollar
Living in Europe, I am painfully aware of the weak US dollar. Visit London, and you’ll pay $35 for a simple lunch. And as expensive as London is, other parts of Europe are worse. This past summer, I paid $22 for a McDonald’s Happy Meal in Switzerland.

Now, part of the reason that Europe is so expensive is that taxes are high. Almost everything you buy has a 15% to 25% value-added tax (VAT) on it. Think of it as a national sales tax. The United Kingdom raised its VAT to 20%, and Hungary is raising it to 27% next year.

The other reason is that the euro—its recent pullback notwithstanding—is so darn overvalued. Other European currencies—the Swiss franc and the Swedish krona—are even more so.

The US dollar has long been the whipping boy of global currencies. A third consecutive year of trillion-dollar deficits and repeated rounds of quantitative easing by the Fed have kept the US dollar in the penalty box among global investors.

But currency investing is a relative game. And as prices in Europe confirm, the euro (and the Swiss franc) is overvalued and the US dollar is undervalued, on a purchasing power parity basis. And any time there are extremes in the market, there is money to be made.

The surprising news is that since the beginning of September, the US dollar has embarked upon an upward trend, breaking out of a long-term trading range just last week.

If you really want to ramp up your bet on the greenback, you can buy the Direxion Mthly Dollar Bull 2X Inv (DXDBX).

2. Buy US Real Estate
All it takes is a quick trip abroad—whether to Europe, Asia, or Latin America—to convince you that US real estate is remarkably inexpensive.

On a square-foot basis, Florida real estate is selling at one-third the value of property in Budapest or Prague—and one-tenth of valuations in London. Certain parts of London are even more expensive. $1 million only gets you 300 square feet in London’s Kensington neighborhood.

I don’t need to repeat all of the negative news surrounding US housing. But here’s what’s interesting: A lot of foreign investors now are parking their money in US real estate.

A big chunk of the condos sold on Miami’s glitzy South Beach are being purchased by Brazilians. It turns out that Miami condos are selling at a fraction of the cost of those in Rio de Janeiro.

Truth be told, foreign investors have an edge that most US buyers don’t. As they are cash buyers, they don’t have to go the rigmarole of securing financing for their properties through the locked-up US banking system.

You can play the US real-estate game through an exchange traded fund like Vanguard REIT Index ETF (VNQ).

However, your best bet would be to start buying income properties in markets that are supported by major demographic trends. But like politics, all real estate is local. So make sure that you educate yourself about the particulars of each market before you do so.

3. Buy European Banks
The European banking system has been teetering on the brink for a seeming eternity. With the Greek bailout back in the headlines, you never know what news the latest Sunday night meeting of Eurocrats in Brussels will bring on Monday.

But the situation may be better than the headlines suggest. Both the Irish and Greek banking sectors recently have attracted private-equity investment from the likes of billionaire contrarian investors Wilbur Ross in the case of Bank of Ireland (IRE) and the Qatar Investment Authority into the Greek banking sector. And smart money always swoops in where others fear to tread.

I have two positions in European banks in my Bull Market Alert portfolio: Bank of Ireland and National Bank of Greece (NBG).

As I have told my subscribers, you should view these positions as highly volatile options—with the benefit of them not "expiring" quickly the way that options do. These are genuine "lottery tickets"—either you’ll lose it all, or you will make three to ten times your money. (I personally have positions in both of these stocks.)

NEXT: 2 More Plays

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4. Sell Gold
With gold enduring its worst three-day drop in 29 years last month, I’d seem a lot smarter if I had included selling gold in, say, August.

Nevertheless, here is what I was going to write, even before the bottom dropped out of the gold price. I should disclose that because I am long on gold both for myself and my clients at Global Guru Capital, this is more than just an academic exercise.

Now, I doubt I can tell you anything new about gold. Your inbox is already full of long e-mails about why gold will go up forever.

So, let me give my purely anecdotal take. When I travel, I always pick magazines in several different languages—just about the only time I get to use the German, Hungarian, French, and Italian that I spent years cramming into my head. It’s a great way to take the pulse of another country—and get a different perspective from the usual US-centered investment crowd.

Well, a few weeks ago, I saw the leading Hungarian business weekly had a cover story extolling the virtues of investing in gold. And as everyone knows, if Hungarians are piling into gold…look out below.

There are plenty of other anecdotal signs of a top. You now can buy gold in vending machines in Dubai. One in three Americans view gold as the single-best investment opportunity over the coming decade, according to a recent Gallup poll. That’s after gold is up five-fold.

To do as well as it has performed in the past decade, gold would have to hit around $9,000 an ounce.

If you want to go against the crowd and bet against gold, you can do it through the PowerShares DB Gold Short ETN (DGZ).

5. Short China
The China mania has proven to be remarkably resilient over the past few years.

In many ways, China is more irrational than traditional financial manias. At least Internet stocks once soared and many real-estate investors profited handsomely.

But if you’ve been investing in China, you’ve been doing no such thing. You’ve lost money across the board—whether in big-cap, state-owned companies, Chinese small caps, or even private equity. If misery loves company, take comfort in that you are not alone.

And those investors have struggled with China for years. This past weekend, I saw an entire book on how Rupert Murdoch failed in China, despite spending half a decade trying. Yes, this is the same guy who made Fox a household name in the most competitive media market in the world.

Throw in the failures in China of Google, Yahoo, and eBay, and a pattern emerges. Even successful foreign investors aren’t doing that well. Microsoft says that it sells more software in China than in the United States—yet it generates one-tenth the revenues, thanks to widespread piracy.

Yes, there are exceptions among the large Chinese Internet stocks, like Baidu (BIDU) and Sina (SINA). But the mainstream Chinese indices have been lousy for years. And lots of US investors, including yours truly, have been taken to the cleaners by "too good to be true" stories in Chinese small caps.

Yet, the world continues to be entranced by China. Just this past week, The Economist magazine predicted that China is set to overtake the US economy by 2016 (!).

Here are a couple of cracks in China’s "Great Wall" of investing to contemplate:

  • China’s iconic Olympic Bird’s Nest stadium stands unused and decrepit.
  • Lightning-fast bullet trains, made with 1960s British and German technology, are virtually empty, as are endless miles of highways.
  • "China’s empty city" of Ordos continues to be empty—as does China’s biggest shopping mall. "Build it and they shall come" is a slogan, not a business plan.

Even as the world is focused on the travails of Greece, an economy smaller than that of Rhode Island, the real elephant in the room is China.

When it turns out that China’s economic miracle turns out to be less than meets the eye, we’re in big trouble. The European debt crisis will appear like a small sideshow. And there won’t be a Germany around to bail China out.

This will be bad news for the world, but good news for investors who are short the "China miracle"—like London’s Hugh Hendry and New York’s Jim Chanos—who are already minting money while mainstream investors are struggling.

Remember how billionaire John Paulson came out of nowhere when his bet against subprime loans came through? Well, the same (well-earned) fate awaits Hendry and Chanos.

According to the Financial Times, Hendry’s Eclectica Credit Fund is up 38.65% in 2011, having returned 22.5% in August—the hedge-fund industry’s worst month since the collapse of Lehman Brothers three years ago.

So, how can you profit from the collapse of the Chinese miracle?

Well, there is a short China ETF, the ProShares Short FTSE China 25 (YXI). The good and bad news is that it is tiny. That makes it a risky bet. But it also means that despite its strong performance recently, very few investors are interested.

It does have a much more liquid and volatile big brother in ProShares UltraShort FTSE China 25 (FXP), a leveraged bet against China.

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