Anticyclical investing
"Buy when the cannons thunder, sell when the violins play," as the venerable banker Carl Mayer von Rothschild once said, describing quite accurately what contrarian investing actually means. Contrarian strategies attempt to do nothing other than swim against the tide. They buy when prices are falling and sell when prices are rising. This strategy can contribute to an increase in returns while simultaneously reducing risk.
Exploiting Mean Reversion
Counter-cyclical investing must not be the search for the perfect entry or exit point (which cannot be reliably predicted) — instead, the investment should rely on mean reversion.
Stock returns tend towards a long-term average. A good period is highly likely to be followed by a bad period and vice versa. This tendency can be exploited with a systematically counter-cyclical strategy.
Psychologically, counter-cyclical investing is demanding — very demanding. Maintaining the demonstrably correct strategy over years, completely blocking out emotions, is probably the most underestimated problem in investing. Investing counter-cyclically, i.e. behaving differently from everyone else, is one of the most difficult investment strategies.
When all other investors are buying euphorically, perhaps talking about a boom, the counter-cyclical investor sells. They buy losers and sell their winners.
In order to sustain such a strategy in the long term, strict criteria must be established and decisions executed automatically — free from emotions.
Saving with a Plan: The Advantages of a Counter-Cyclical Savings Plan
With a savings plan, one can achieve the positive effects of counter-cyclical investing — increasing returns and reducing risk — while avoiding the emotional pitfalls.
The regularly invested amounts are increasingly invested in bonds in rising markets and increasingly in equities in falling markets.
With this type of rebalancing, this means tending to buy low and sell high. This allows you to participate more strongly in price recoveries and suffer less from market crashes.
By executing the counter-cyclical investment from newly contributed funds, a savings plan avoids transaction costs that erode returns.
The potential for risk reduction and return enhancement is greater the higher the savings rate is relative to the invested amount.