For those of us who invest in UK stocks, last year was sorely disappointing. Even despite a Santa rally in December, the FTSE 100 and FTSE 250 stuttered their way to end 2023 below their February highs.
Such underperformance is frustrating, but UK stocks look as cheap as they have been for a decade. Profits keep rising and the Footsie trades at just 10.4 times forward earnings. Now looks like a rare opportunity for the contrarians among us.
The contrarian approach could be key here. It’s often said every great investor is a contrarian investor. After all, if you follow the rest of the market, you will get the same results as the rest of the market. To beat the market, you have to do something different.
Against the grain
But going against the grain isn’t easy for us. We’re still animals that exhibit a strong ‘herd mentality’ that compels us to pay very close attention to what others are doing.
Even when faced with the cold numbers and facts of the stock market, we can’t easily shake off our aminal instincts.
These shifts of large numbers of humans following each other creates bull markets, bear markets, bubbles, and crashes. The herd mentality also creates inefficiencies. These opportunities are where a contrarian investor can buy high-quality stocks at bargain prices.
The best time to buy is, perhaps paradoxically, in a bear market. When investors are watching everyone else remain cautious, contrarians can jump in to snap up oddly underpriced shares. It’s simply following the first instruction of the maxim, “buy low, sell high”.
Are we in a bear market in the UK right now? No. By the most common measure of a 20% drop from a peak, the FTSE 100 can’t be classified as being in a bear market. It’s too close to all-time highs.
At the same time, the index has only grown 14% since 1999 and price-to-earnings ratios languish below both historical averages and other developed countries. Investor sentiment remains bearish so opportunities could be plentiful.
Best opportunities
Where are the best contrarian opportunities then? Well, housing stocks are at a low ebb right now. High interest rates mean expensive mortgages, so housing developers may be trading cheap as investors turn their noses up at them.
Housing demand is a strong tailwind so prospects look good in the medium term. Picking up cheap shares now might be like buying in during 2008 after which some housebuilders went on a tear. Persimmon ended up a 10-bagger if I’d bought in at the right time.
An even more contrarian approach might be oil and gas stocks. The recent rise in raw materials has made renewables pricier, which could slow down the green revolution.
While I wouldn’t blame anyone who shies away for ethical reasons, I won’t be shocked if energy stocks rip higher over the next few years.
Other sectors look underpriced too, but perhaps the biggest contrarian opportunity is the UK itself. Yes, stocks have underperformed, particularly since Brexit. But looking at the historical data, years of market underperformance is a common precursor of a bull run.
In a few years, the contrarians who invested here might be holding some bumper portfolios.
