When it comes to love, we often hear the phrase, “Beauty is in the eye of the beholder.” Well, the same could be said for the stock market.
Many investors look for the companies that deliver consistent results and satisfy the number-crunchers on Wall Street. While I belong to that group, I also take alternative views and search for companies that are the so-called dogs of the stock market. However, as our theme suggests, choosing in the stock market based only on a company’s outer appearance doesn’t always produce the best outcome.
Think about it this way: Why always select the stocks that are in favor by the stock market? Often, you may be the last to the dance, so you end up chasing stocks that have already made major stock market moves—the upside is limited.
I like looking at distressed companies that are facing some hurdles but have enough upside potential to make these stocks a worthwhile trade in the stock market. These plays are often referred to as contrarian investments—companies that are out of favor but have enough potential to demand a closer look in the stock market. In this case, you are often buying a company at a low valuation and price, as the stock market has turned against them.
I like these contrarian situations, as the potential upside is significant if these companies can turn around their operations.
In the past, I have highlighted opportunities such as Groupon, Inc. (NASDAQ/GRPN) and Facebook, Inc. (NASDAQ/FB)—both of which made spectacular gains thereafter. (Read “Why Macy’s Is Such a ‘Good’ Retail Play.”)
Nokia Corporation (NYSE/NOK) was another contrarian pick that I thought had excellent upside potential in the stock market after declining to the $3.00-per-share level. Since then, the stock has more than doubled.
The key to contrarian investing is to look for companies that have solid businesses or are in the midst of a strategic change that could turn the company’s fortune around. Of course, you need to be aware of the associated risk, as many of these companies may fail to reverse course. J. C. Penney Company, Inc. (NYSE/JCP), for example, is facing debt and growth issues in the retail sector. This company was an icon in American retail for more than 100 years, but now, it could be headed for bankruptcy. I’m not a buyer here, as the risk far outweighs the reward in my assessment.
In the auto segment, two contrarian picks investors may consider include General Motors Company (NYSE/GM) and Ford Motor Company (NYSE/F).
Back in 2008, following the subprime credit crisis, I also liked the big banks after they plummeted to as low as $1.00 a share for Citigroup Inc. (NYSE/C).
A small restaurant stock that is currently out of favor with the stock market but may be worth a look for the contrarian investor looking for a big upside trade may be Ruby Tuesday, Inc. (NYSE/RT). Hovering around $6.00, the company is working hard to turn things around and if it’s successful, Ruby Tuesday could regain its luster in the stock market.