Contrarian investing places the individual in a psychologically challenging position. Taking a stance that runs counter to prevailing sentiment can trigger deep discomfort, self-doubt and emotional stress. While the strategy is grounded in logic and valuation, its successful execution depends on navigating a range of behavioural biases that can distort decision-making.
These biases – loss aversion, confirmation bias, herding and others – pose constant threats to clear thinking, particularly when positions underperform or consensus pressure mounts. Understanding and managing these psychological tendencies is essential for any contrarian investor aiming to remain rational in irrational markets.
LOSS AVERSION: THE FEAR OF LOSING OVERWHELMS THE POTENTIAL TO GAIN
Loss aversion, a central concept in behavioural finance, describes the tendency for individuals to feel the pain of losses more acutely than the pleasure of equivalent gains. In practical terms, a loss of £1 typically feels worse than a gain of the same amount feels good. For contrarian investors, this bias creates a significant challenge, particularly because the strategy often involves buying into declining markets or underperforming assets.
When a newly acquired position continues to fall, the psychological discomfort can be intense. Investors may question their original thesis, fear further losses or seek to exit prematurely to avoid emotional pain. In doing so, they risk crystallising losses just before a recovery begins. Alternatively, some may double down impulsively to recoup losses, exposing themselves to greater downside if the investment deteriorates further.
Managing loss aversion requires more than willpower. Contrarians mitigate this bias by setting clear investment criteria, limiting position sizes and maintaining a long-term perspective. They also use historical context to remind themselves that near-term price weakness does not invalidate a fundamentally sound thesis. Recognising that drawdowns are often a feature – not a flaw – of contrarian investing helps them tolerate short-term discomfort in pursuit of longer-term opportunity.
CONFIRMATION BIAS: THE SEARCH FOR SUPPORTIVE EVIDENCE
Confirmation bias is the tendency to seek out information that supports pre-existing beliefs while discounting or ignoring contradictory evidence. For contrarians, this bias can become particularly problematic once a position is initiated. The desire to reinforce one’s conviction may lead to selective analysis, where only favourable data points are considered and emerging risks are dismissed.
This bias undermines objectivity. A contrarian investor who ignores new developments, such as weakening fundamentals, poor management decisions or broader structural shifts, risks holding onto a deteriorating position far longer than justified. In some cases, the investment thesis may no longer be valid, but confirmation bias masks that reality.
Overcoming confirmation bias requires a disciplined research process and regular re-evaluation of investment theses. Contrarians benefit from actively seeking disconfirming evidence and engaging with opposing viewpoints. Documenting the original rationale for a position and updating it in light of new information encourages intellectual honesty. Peer review, if available, can also be valuable, as it introduces independent scrutiny and alternative perspectives.
HERD BEHAVIOUR: THE PRESSURE TO CONFORM
Herding is a natural human tendency. In uncertain environments, people often look to others for cues on how to act. In financial markets, this instinct manifests as following consensus views, mimicking institutional flows or reacting to media narratives. For contrarian investors, resisting herd behaviour is fundamental but also difficult, particularly when consensus positions are performing well.
The pressure to conform increases when contrarian positions underperform. Market participants may question the logic of going against a trend, especially when the majority appears to be succeeding. News outlets, analysts and peers reinforce the dominant narrative, creating a sense of isolation for those who hold an opposing view.
Contrarians counter this bias by anchoring decisions to evidence rather than popularity. They focus on valuation, sentiment data and long-term fundamentals, even when these indicators diverge from market action.
Maintaining an independent research process and avoiding excessive exposure to consensus-driven commentary helps preserve clarity. Many contrarians also study history to gain confidence in the idea that market crowds frequently misprice assets, especially at extremes.
THE DISCOMFORT OF BEING ALONE: EMOTIONAL RESILIENCE IN UNCERTAIN MARKETS
Contrarian investing is inherently uncomfortable. It involves entering markets or positions precisely when others are exiting, often during periods of fear, crisis or perceived failure. This discomfort is emotional and social, not just intellectual. Being in the minority requires psychological resilience, especially when the market continues to move against a position and there is little external validation.
This discomfort can lead to premature capitulation. Investors may abandon positions simply because they feel out of sync with the market or because they fear reputational damage. These emotional pressures can override rational analysis, particularly during periods of extreme volatility or drawdown.
Emotional resilience is therefore a defining trait of successful contrarians. It is built through experience, reflection and the cultivation of detachment from short-term market noise. Many contrarian investors maintain written investment theses to serve as a reference during turbulent periods. Others adopt rules-based frameworks that remove emotion from decision-making, such as pre-defined buy and sell criteria based on valuation or sentiment metrics.
ANCHORING AND RECENCY: BIASES THAT DISTORT EXPECTATIONS
Anchoring refers to the tendency to rely too heavily on initial reference points such as past share prices or historical averages when making decisions. For contrarians, this bias can lead to overconfidence in valuations that may no longer be relevant. A stock that once traded at £50 may appear cheap at £30, but if the underlying business model has weakened, the historical anchor is misleading.
Similarly, recency bias leads investors to overemphasise recent events or performance trends. In a declining market, this can reinforce pessimism and deter contrarian action. Investors may assume that the recent past will continue indefinitely, overlooking signs of stabilisation or early recovery.
Combating these biases involves building a forward-looking analysis framework. Contrarian investors avoid over-reliance on historical price levels and instead focus on intrinsic value under current conditions. They also monitor market sentiment and macro indicators for signs that recent trends are losing momentum or becoming disconnected from reality.
CONTRARIANISM AS A DISCIPLINED MENTAL APPROACH
Contrarian investing is as much a psychological discipline as it is a financial strategy. It requires the ability to remain independent, objective and focused in environments where consensus thinking dominates. Behavioural biases are ever-present and often amplified by market stress. Those who succeed in contrarian investing do so not by eliminating emotion entirely, but by recognising its influence and putting structures in place to mitigate it.
Self-awareness, continuous learning and rigorous process development are central to managing behavioural risk. By understanding their own cognitive tendencies and designing systems to counteract them, contrarians increase their ability to make rational decisions when others are governed by fear or euphoria. In doing so, they position themselves to capture value in markets that often misprice assets due to emotion rather than fact.
To learn more about contrarian investing, visit Orbis Investments' Contrarian Investing Playbook.
This Trustnet Learn article was written with assistance from artificial intelligence (AI). For more information, please visit our AI Statement.