October 1, 2013

Thoughts on contrarian investing and how it relates to Mexico and Somalia

Five years ago, Pentagon analysts warned how Mexico risked becoming a "failed state," which is defined as "a state perceived as having failed at some of the basic conditions and responsibilities of a sovereign government." At the same time, media produced an ever increasing number of reports from drug shootouts in Mexico and it seemed like as if it was the drug lords who controlled the country. If you looked at the security at the border between United States and Mexico, it seemed to grow higher each year and you could almost think that the entire population of Mexico tried to cross the border.

Fast forward to 2013. Last week, The New York Times featured an article with the title "For Migrants, New Land of Opportunity Is Mexico." According to the article, the so called future failed state's foreign-born population doubled between 2000 and 2010. Between 2005 and 2010, 1.37 million Mexicans moved to the United States, but 1.39 million Mexicans moved from United States back to Mexico.

One reason to why Mexico is on the rise is the fact that it has become cheaper to manufacture goods in Mexico compared with in China if the goods are to be sold in the American market. Native entrepreneurs from countries like France, South Korea, and even United States have begun to move to Mexico because Mexico offers them opportunities they no-longer can find in the countries they were born. French college graduates struggle to find work, so they move to Mexico because the affordable quality of life beats living in Europe. "We're not going back to France," an entrepreneur said. "The business is doing well and we're very happy in Mexico." There are still problems in Mexico, but Mexico is far away from a failed state:
  • Mexico's murder rate is now falling for the first time in five years - a third of Mexico has a lower murder rate than Louisiana which is America's most murderous state
  • The  unemployment rate in United States is nearly twice as high as Mexico's
  • It has been estimated that by 2018, America will import more from Mexico than from any other country.

This history of Mexico's transformation from a nearly failed state reminds me of the importance of knowing what a contrarian investor is. A contrarian investor can be defined as:
"One who attempts to profit by investing in a manner that differs from the conventional wisdom, when the consensus opinion appears to be wrong."
A contrarian investor would have invested in Mexico when everyone thought Mexico would become a failed state. The reason to why this investing strategy works is because "When everyone thinks alike, everyone is likely to be wrong." So a contrarian is not someone who acts on a thought because everyone else thinks differently, the important part here is that everyone else have to be wrong. 

One event when contrarian investing was profitable took place during the Second World War. When France was lost to the Germans and Britain was one of the few countries not occupied by Germany, the British stock market began to rise. This may first seem strange, why would the stock market rise when the country is about to be invaded by another country? But the reason is actually very logical. The stock market began to rise because everyone was negative to the stock market. They asked themselves: why would the stock market rise when German tanks begin to drive through London? The answer to the question is that if investors are negative, they have sold their stocks, then who else can sell their stocks so the stock market can fall even more? There will always be seller and buyers or a stock can't be exchanged, but the important numbers are the amount of sellers and buyers. If the amount of buyers is larger than the amount of sellers, the stock market will rise. All the Brits were negative and had sold their stocks, so the stock market could only rise.   

One famous contrarian investor is Paul Tudor Jones who is considered to be an expert in finding market turning points. To find these turning points, he has a super simple strategy: trying multiple times. If it turns out that what he thought was a turning point wasn't a turning point, he bites the dust by closing his position to try again another day. So he will end up with several small loses until he finds the turning point and then he will get a large profit which hopefully is larger than the small losses. If you want to read a more detailed story on how Paul Tudor Jones finds turning points, I've written an article about it: 

One country considered to be a failed state today is Somalia (famous from the movie Black Hawk Down), so is Somalia an opportunity similar to Mexico? The Swedish medical doctor, academic, statistician and public speaker, Hans Rosling, believes that it is so. If you haven't watched Hans Rosling's popular TED lecture on "The best stats you've ever seen," you should watch it. In a lecture from 2013, called "Nästa tillväxt (Next growth)" (only available in Swedish), Hans Rosling told the audience that the next growth country is Somalia. The reason is that the shipping of goods has moved from the Atlantic Ocean to the Indian Ocean, so Hans Rosling believed the best investment today is a coastal site in Somalia. This video clip from Al-Jazeera exemplifies why Somalia has begun to improve: