How To Find Contrarian Stocks That Generate Outsized Returns

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During his recent interview with Tobias, Mark Jones of Pragmatic Capital describes his approach to finding contrarian stocks that provide outsized returns, saying:

Mark Jones: Right, so I have a four-step research process and this is how I vet or I audit the market’s point of view. I find that there are a lot of situations where a stock will come up and the level one of my process, which is more screening. So I have an algorithm that basically does financial statement analysis that I would conduct myself and it returns indicators for all of the stocks in the universe that I’m looking at, that look attractive or just not attractive here.

What that screener is really looking for, is a divergence between fundamentals. We’re talking about revenue trends, revenue trajectory and a profitability, and profit trends, and profit trajectory, and what the stock is doing. If we can start there, then we can say, “Okay, well clearly, if the company is doing well based on the numbers and the stock is not doing well, then that means that the market is predicting that the company will not do well going forward.”

That’s an easy step to kind of interpret the market’s predictions. You have to use inference there but beyond that, there are a lot of situations where I could say that I could see where the market is coming from. Where a stock is down 60-70% and a company’s revenues or EPS, they’re growing right now but if you do a little digging, you can see, “Okay, I can see where the market is coming from here. There’s no story here.”

But if I get through level one and I’m looking at the financial statements and I’m looking at the headlines and I see, “No, I don’t see where the market is coming from here beyond just speculation,” then I move it through the process, two through four, and what that process is centered on is basically getting an understanding of that company’s, I call it the economic ecosystem, to understand what’s really going on. Aside from the stock market, what’s happening on a fundamental, micro-economic level? You can get really deep there. That’s where you can get in the weeds and get lost but that whole process is to kind of come to a point of view on if the market is right or wrong.

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