There is a lot of value that can come from a contrarian investment approach. When Internet stocks were soaring in 1999 and early 2000, contrarians who decided that valuations were absurd, watched from the sidelines as market watcher called them out of touch for missing out on big gains. The contrarian had the last laugh, however, as those same market watchers watched with embarrassment as those gains vaporized quicker than they accumulated.

Investopedia Markets: Explore the best one-stop source for financial news, quotes and insights.

The Intelligent Contrarian
Yet, being a contrarian merely for the sake of going against the crowd is not smart, if there is no intelligent basis behind it. After all, the collective wisdom of a crowd can often be more useful than one individual's information; the market is usually an efficient arena. But every so often, market pessimism gets so extreme that emotions trump rational thinking.

Today, the housing industry is so depressed that valuations are at rock bottom levels. To be sure, virtually any business that derives a significant portion of its sales from residential real estate, is losing money today and has been for a few years now; the picture doesn't look encouraging next year. As a result, very few people want to own housing related stocks and for good reason. A contrarian, at the minimum, will look a little closer to see if going against the grain here is a worthwhile endeavor. (Contrarian investors find value in the worst market conditions. For more, see Buy When There's Blood In The Streets.)

Survival of the Fittest
The housing problem is really a simple supply/demand economics problem. Demand for housing remains depressed while the supply of housing is currently running at about 500,000 units a year. While that figure is well below the peak of about 2 million starts several years ago, it will take a while for the imbalance to shift. When that happens, businesses leveraged to housing will likely benefit more than actual homebuilders.

So, instead of owning the homebuilder, why not own a supplier to them like Builders FirstSource (Nasdaq:BLDR). Shares now trade for about $1.40, down significantly from the good old days. At a market cap of $130 million, BLDR would be deemed cheap during any type of housing recovery. To own it, you have to have a long-term view, but that view could pay off in the form of a $5 share price, in three years. A stable recovery could see BLDR earning $100 million in EBITDA.

Comfort Systems (NYSE:FIX) installs and repairs HVAC systems. The company has increased its commercial business during the residential construction downturn. The company has a market cap of $366 million and nearly $22 million in net cash. The business is profitable, though it currently trades around 40 times earnings, which are likely depressed.

More conservative investors looking for income will like Lowe's (NYSE:LOW), the nation's second largest home improvement retailer, after Home Depot (NYSE:HD). LOW and HD have effectively navigated this tough environment; both are profitable and sales are stabilizing. A housing recovery would be like a call option on the share price. While you wait, Lowe's yields nearly 3%. (For more on calls, see The Basics Of Covered Calls.)

The Bottom Line
A contrarian bet can have a substantial payoff for patient investors, but offsetting the huge reward is finding out the crowd was right. Contrarian investors, by their nature, are very research intensive. Before going against the grain, make sure you are well equipped with facts.

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Stock Analysis

    Why the Bullish Are Turning Bearish

    Banks are reducing their targets for the S&P 500 for 2016. Here's why.
  2. Stock Analysis

    How to Find Quality Stocks Amid the Wreckage

    Finding companies with good earnings and hitting on all cylinders in this environment, although possible, is not easy.
  3. Investing News

    What You Can Learn from Carl Icahn's Mistakes

    Carl Icahn has been a stellar performer in the investment world for decades, but following his lead these days could be dangerous.
  4. Stock Analysis

    Analyzing Altria's Return on Equity (ROE) (MO)

    Learn about Altria Group's return on equity (ROE) and analyze net profit margin, asset turnover and financial leverage to determine what is causing its high ROE.
  5. Investing News

    Icahn's Bet on Cheniere Energy: Should You Follow?

    Investing legend Carl Icahn continues to lose money on Cheniere Energy, but he's increasing his stake. Should you follow his lead?
  6. Stock Analysis

    Analyzing Google's Return on Equity (ROE) (GOOGL)

    Learn about Alphabet's return on equity. How has its ROE changed over time, how does it compare to its peers and what factors are driving ROE for the company?
  7. Investing News

    Is Buffett's Bet on Oil Right for You? (XOM, PSX)

    Oil stocks are getting trounced, but Warren Buffett still likes one of them. Should you follow the leader?
  8. Investing News

    Chipotle Served with Criminal Probe

    Chipotle's beat muted expectations and got a clear bill from the CDC, but it now appears that an investigation into its E.coli breakout has expanded.
  9. Stock Analysis

    Analyzing Sprint Corp's Return on Equity (ROE) (S)

    Learn about Sprint's return on equity. Find out why its ROE is negative and how asset turnover and financial leverage impact ROE relative to Sprint's peers.
  10. Stock Analysis

    Why Alphabet is the Best of the 'FANGs' for 2016

    Alphabet just impressed the street, but is it the best FANG stock?
RELATED FAQS
  1. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  2. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  3. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  4. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  5. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
  6. What is the difference between issued share capital and subscribed share capital?

    The difference between subscribed share capital and issued share capital is the former relates to the amount of stock for ... Read Full Answer >>
COMPANIES IN THIS ARTICLE
Trading Center