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both prevent you from faUing into the predictable errors that most investors make, and in many circumstances actually help you take advantage of them. Psychology is the necessary hnk required to activate the contrarian strategies we will examine. Armed with this knowledge, you have a good chance of beating the market. In fact, the awareness you can develop may prove one of your strongest assets in the years ahead.

However, you should close this work or any other if the author says you can harness market psychology easily. Even the state-of-the-art research findings in the field-which I will present-will not accomplish this objective by itself. No, even knowing the strong odds a strategy will work, you will be faced with immense psychological pressures to follow exactly the opposite course. Only by understanding how powerful the tug of these forces can be will you be able to harness them. Without this understanding, Im afraid no book is going to improve your investment results all that much.

The final aspect of the book is the influence on the reader of widely accepted but spurious investment thinking. Our inherent psychological makeup is not the only danger to our investment health. Not only do we need usable strategies, and the ability to execute them, we must also avoid the all-permeating influence of powerful but fallacious investment mores of our time. There are a number of seductive theories that have dominated the mainstream of Wall Street thinking for years, which can beckon you away from the proven approaches well examine. We will also look at the major intellectual fads of the day to see how they hold up in practice, as well as some of the torpedoes hidden within the current framework of "smart" investing.

Much of contemporary practice is tied to this mistaken lore. The concepts are similar to mass-media advertising-you accept the brand names well before you know whats in the package. While this work is not a tract on investment theories, to successfully implement contrarian strategies you must understand why some methods work while others consistently fail.

In particular, the book will deal with the efficient market hypothesis, the most powerful investment theory of the twentieth century, which states that nobody can beat the market over time. This theory permeates virtually every aspect of investment practice today. Whether we are making decisions on the riskiness of portfolios, what mutual funds tO buy, whether to buy smaller companies, or to put our savings into index funds, or foreign securities, we are, knowingly or not, following efficient market teachings-almost all of which have been discredited. For this reason, it is important to address this issue to clearly understand where these ideas originate, and where they go wrong.

What we shall find is a theory built on air. Many of the things most of us accept as gospel, such as how to measure risk precisely, the need to diversify into foreign stocks, or that small stocks will provide us with better returns, simply are not true. Knowing why and structuring your portfolio accordingly can be of enormous benefit to you.

As you can see, the successful implementation of contrarian strategies, which at first glance appears to be a snap, really depends on three different but interlinking components. That is why I have laid out not only the contrarian methods, but the essential psychological guidelines necessary to use them, and the problems with the popular teachings of the day.

Some of the work will be controversial, since it goes against popular beliefs and gores sacred cows. Recent work on analysts eamings forecasts, for instance, points to an enormous and sustained error rate, which is easily documented but cuts to the heart of analysts raison detre: providing accurate forecasts. I also challenge the popular belief that small companies have outperformed the S&P 500 over time. The work further demonstrates that measures of risk used to evaluate mutual funds and money managers are seriously flawed, and can actually harm the investor. In the course of this discussion, in chapter sixteen we will examine what the real risks are of investing in todays markets, and I will introduce what I believe to be a more realistic and accessible method to measure risk.

I have fielded criticism from academic and professional experts for close to twenty years, some of it containing sha personal attacks. Nevertheless, though the fusillades may have sent a few of my feathers flying-not to mention on occasion raising my blood pressure-they have never undermined the work.

The book will also look at a number of important issues not related to contrarian strategies. The most important of these is how to invest for the long term. As we will see in chapter 13, the rules of prudent investing have been tumed upside down in the postwar decades, yet your investment advisor, your banker or your broker, probably has little awareness of the fact. If you follow their advice, as well-meaning as it is, you will often come up short in your savings goals. The work will also examine how to create tax-efficient portfolios, which are only now starting to get the attention they deserve. The subject deals with methods to protect yourself from taking inordinate long- or short-term capital gains, whether by managing your own portfolio or by placing it in the hands of an investment advisor or mutual fund.

Another important topic that builds out of contrarian strategies how to react to a crisis. Though millions of words have been written about

crisis and panic, a systematic approach to profiting from them has to this time never been presented. Crisis, as I hope to show you in chapter 12, provides enormous opportunity for those who can follow the guidelines that will be laid down.

Finally, the boolc will provide a number of insights that my clients or I discovered the hard way, from being wary of "guaranteed" performance records of money managers and mutual funds, to staying clear of the hottest initial public offerings.

I should note that on occasion I refer to important research studies both in psychology and in investing that I had presented in my earlier works, as a foundation for some of the new research. This material, however, comprises a small part of the work presented here. To improve the flow I have attempted to relegate footnotes, particularly those providing further detail on research findings, to the back of the work. At times however, I have retained footnotes at the bottom of the page where I thought they would be especially useful to the general reader.

When I published Psychology and the Stock Market in 1977,1 was half sure I would be drummed out of Wall Street, or at least ostracized, for some of the radical ideas the book presented. To my delight it was well received on the Street, with a number of professionals telling me it was the book they, too, had been thinking of writing. So popular has the original contrarian thinking become in the past two decades, that the academic estabhshment has adopted it, after years of opposition, and proclaimed it their own.

This book, like its predecessors, presents a very different approach to investing, one that is hkely to be challenging-if not anathema-to many of the widely accepted ideas of the day. Whether it is attacked or not, the bottom line is that the methods not only work in theory, they also have been very successful in practice. I think I can promise you an interesting and rewarding trip, as well as a little fun along the way.

So, sit back; enjoy. Nobody beats the market, they say.

Except for those of us who do.

David Dreman Aspen, Colorado January 21, 1998

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