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Contrarian Investing: Slaughtering the Herd. Part 2

One thing to keep in mind is that when an asset class falls off a cliff, it typically falls below it’s actual intristic value typically takes a long time to find it’s way back into mainstream investing.  This is because after tanking, a stock goes unloved, rejected and even ignored; for hurting so many people.  After all, who would want to invest into something that just lost 80% in value??  This is where US real estate is at.  Americans despise it.  However, much of the real estate activity going on in America nowadays involves Canadian investors.  They for the past 12 years, have done nothing but made money in real estate.  By contrast, as of March 2012, over 25% of Americans are still underwater on their mortgages.  What do you think the likelihood is that they will purchase an investment property??

Traders Work At The Chicago Board Of Trade...Traders work in the S&P 500 pit on the floor of the CME Group's Chicago Board of Trade moments after a U.S. Federal Reserve Federal Open Market Committee (FOMC) meeting in Chicago, Illinois, U.S., on Wednesday, Jan. 26, 2011. U.S. stocks rose, sending the Dow Jones Industrial Average above 12,000 for the first time since June 2008, after the Federal Reserve maintained stimulus measures and new-home sales topped projections. Photographer: Tim Boyle/Bloomberg

So there it US real estate sits, slowly depreciating in value, everyone cursing their home.  Now, a contrarian investor may look at it and start researching the asset, ensure the fundamentals are strong and start investing.  Many people consider this the “smart money”, but this smart money must be patient since many of these assets can go unloved for many years.  In my opinion, US real estate is a great buy and would be an excellent long term hold.  But once again patience is key.

Let’s look at another example that has recently found it’s way back into mainstream media and taken off again.  Here is a graph showing historical gold prices:

Now from the graph above, you can see that gold has had a tremendous run in the last decade.  However, would you feel comfortable purchasing gold right now.  Although I think that the fundamentals for gold are strong, I am now on the sidelines, just recently selling my gold futures.  One of the main reasons I sold my gold stocks was because of the next graph:

The above graph is a chart that compares the cost of average houses with the price of gold in ounces (effectively, how many ounces does it tke to buy a house).  And from the graph, the last time real estate was so undervalued (in relation to gold) was in 1980.

Two things were happening:

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  1.   Gold was overvalued, and/or
  2.   Houses were undervalued

Well in 1980, both were true: gold prices collapsed while housing prices steadily increased in value.

Therefore, had you been a regular investor or greater fool, and bought gold in 1980, you would have had to wait a full 25 years to just break even.  However, had you purchased real estate during this time, you would have made money hand over fist.  I think that we are at the same fork in the road, only 30 years later.  However, this time, with the amount of money that the Federal Reserve has printed in recent years, gold looks a lot less risky.  However, purchasing an asset at the peak of a bull market may result in some potential profit buy selling to a greater fool.  However, buying while an asset is in a slump is the only guaranteed way to ensure large returns for a fraction of the risk.  So the question is are you a contrarian investor??

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