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Being a Contrarian on Oil and Basketball


jawn619
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I am going to take an interesting stance, especially given everyone's interest in oil and gas sector. I think there are two components to making money investing as per Howard Marks. One is to be right in your thinking, and the other is to know what the crowd thinks and to be divergent from it.

 

One thing that has hurt me and probably others on this board is that I often forget the being right part and just focus on being "contrarian". I forget that most of the time, the crowd is roughly right and the future looks like the past. I get great satisfaction from being right when everyone else is wrong. The trouble is, it just doesn't happen very often. Like Marks says, the consensus is not a moron.

 

I believe It's the difference between your opinion and the market's opinion that determines the magnitude of the money you make and the rightness of your opinion that determines if you make it at all. I'm attracted to cases where magnitude is large, but I often pay no attention to the probability.

 

I'd like to give a couple of examples, a few related to investing and one related to sports betting/basketball.

 

1. BRK.B has high returns on equity, but a lot of people everyone think so too, so it trades at a premium, if you buy at a premium, you will make money only if berkshire outperforms that built in hurdle.

 

2. Oil and Gas companies trade at low valuations, because expectations are that declining oil prices will hurt profits. if you buy them you are betting that the decrease in earnings will be less than the built in hurdle. Now the question is how good is your insight into whether or not the earnings will be higher than expected? I see a lot of people, myself included, see the drop in oil and gas companies, buy them, and then convince themselves that they understand how the prices of commodities work. Supply and Demand, Irrationally pessimistic, Demand of oil is going to increase. How many people truly understand how the markets for commodities work? Or understood them before taking a position in a lot of these O&G companies.

 

Let me take an example from basketball.

3. Russell Westbrook plays for the Oklahoma city thunder and is one of the MVP candidates this season. During the season, he had a stretch where he recorded 4 triple doubles in a row. A triple double is where a player records 10 points, rebounds, and assists in one game, a rare feat and Russell Westbrook had 14 triple doubles in his career up until that point(out of maybe 450 games). My co-worker and I bet on the chances of him getting a triple double the next game. I said that he would not get it and my co-worker bet on him getting it. I thought of my bet as contrarian and right. The way I was thinking was that out of all his games in his career, on any given night, his probability of getting a triple double was 14/450 or 3%. I recognized that there is some uncertainty in that he is playing extraordinarily well in the past few games and that kevin durant was out so his stats would likely to be higher. Even with those built in hurdles, I thought i had a big enough margin of safety.

 

I bring up the example is because I don't think a lot of us have thought about all the risks in the oil and gas sector and I think a lot of them don't have a big enough margin of safety especially given that it is inevitable that the earnings of a lot of the oil and gas companies are going to decrease, and there isn't a big enough magnitude difference for me to want to bet the house on it.

 

Would love to hear everyone's thoughts

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Thanks jawn619 - I enjoyed reading your post and have been thinking about the same lately.  I invested in BP recently with a similar hypothesis: Everyone's selling because a) Oil prices are going down and b) there is a lot of negativity due to the legal issues BP's facing in the aftermath of the spill. I did some additional analysis but by and large, I made the investment because I wanted to be a contrarian.

 

However, I kept growing restless in the days that followed and finally decided to exit the position soon after. I felt much better because I finally realized that I had made an investment for the wrong reasons. The self-realization that the oil and gas sector (or commodities overall) was outside my circle of competence was also just as important!

 

Best,

Nikhil

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Great stuff..

 

Seth Klarman brought this matter up in one of his letters... i cant remember which one it was but you can prob google it...

 

All my life... or at least from around 3 years old when you start to challange your parents... I have had a "built-in" contrarian view...  ie when 7 years old, a person says A, I automatically said B.. if the whole group said B, I more strongly argued for A... I think that comes from curiosity and inverting... as a corollary, sound logic does not betray me at the point of maximum pessimism..

 

But when i started investing, the contrarian approach - buying 50 cents on dollar - hurt me a lot.. so I had to change my investing process... First off, I dont like to be a contrarian - a person that rejects popular opinion. I want to be an intelligent investor.. an investor that connects contrarian, growth, value, into one process with a clear view and knowledge about the business.. 

 

IMO, an intelligent investor know when to use the contrarian tool.. when the market is gripped by panic or euforia which creates great distortions in prices to value.. but when these emotions are fairly intact and balanced, the conseus view will very often be correct - because the market is efficient in discounting the news, but not in discounting them correctly and thus the margin of safety to price will not become big enough without the effect of strong human emotions..

 

BP: Being a Contrarian 1

 

So following up on the oil/gas comps... When the rig blew up in the mexican gulf and BP quickly depreciated in price.. I thought that not only did the market discount in lower revune and damage cost, but it would exaggerate it quite a lot.. and when the market started to talk about bankruptcies, I thought the probability said no so I bought it around 28.. It was probably luck that it bounced at that level, it could have easily gone down to 15.. but bankruptcy? not very likely at the time.. So why around 28?.. It was because at that level, the consensus in the market discounted in 100 billion of damages to the company, and by analysing the company and previous similar accidents ie exxon valdez, I came to the conclusion that no way could consensus be right on projecting the damage so fast, 100 billion seemed like a made-up-easy-to-rember-number... The news was effeciently disounted in, but very inefficient in doing it correctly... and even with big damages, BP could pay it off with CF over time.. So if the risk came down, the price would certainly go up.. and even if the consensus was right about the 100 billion mark damage, I would still probably get a good div yield while waiting for the risk to come down... That was a good investment imo and a good way to use the contrarian tool..

 

BP: Being a Contrarian 2

 

Buying BP because of lower oil prices is another sort of game imo.. then its the direction of oil price which is hard to predict... What happens when all the oiltankers that got filled up - with steep curve contango in oil futures - gets sold in the market later this year..? What happens when the maintanence period of storage / refineries start this spring, and if maintenance gets interrupted ? what happens if storage runs out ? Waht happens if sanctions is lifted from Iran and their supply comes out in the market ? and so on.. its too many "what ifs" to determine a high enough probability for investing.. and consensus is probably more right than wrong since the market has more time to better correct the data into the price... That would be a bad investment imo and a poor way to use the contrarian tool..

 

Hope it made a bit sense..

 

Cheers!

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Oil prices are tied to the US dollar.  Unless the US dollar is expected to weaken for some reason, oil prices won't be going up.  And all these US producers (XCO, SD, whatever) will probably be in rough shape.

 

People tend to think of money as some magical thing.  Money is an intermediary for bartering.

 

bartering: exchange (goods or services) for other goods or services without using money.

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Your basketball bet was a virtual slam dunk.  Not because Westbrook isn't great (he is), but because of the odds of any player in the league getting a triple double on any given night is not too high.  I would bet if you look on ESPN there are fewer than 10 players who have more than 1 triple double this year.  Your colleague basically made a bet the way somebody buys a stock only because its going up. 

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http://espn.go.com/nba/statistics/player/_/stat/double-doubles/sort/tripleDouble

 

You can actually look at the data on triple doubles per season; to date 38 in the season, 18 different players.  Centers can get triple doubles from pts, rebs, and blocks.

 

Based on his rate of TDoubling this season, betting against RW wasn't necessarily such a sure thing.  Still it's a fairly rare event on any given night of NBA games.  The trouble is your friend didn't ask for 50-1 odds.

 

 

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Yeah your coworker had it coming.  So there are 30 teams (t) in the NBA and most teams have played about 74 games (g)

So, g*t= 2220

Based on Jawns post there have been 38 triple doubles which is basically one every 58.4 games or 1.7%.  Obviously Westbrook's numbers are much higher but your coworker still should have been given much better odds lol. 

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