How Are You Preparing for a Market Crash in 2024?

The word has it that David Einhorn is loading up on gold.

SPDR gold trust which is the world's largest gold-backed ETF is now 89% owned by Einhorn's fund, Greenlight Capital. Also, the hike in stake has translated into a record exposure to gold for Greenlight.

Who is David Einhorn you may wonder? Well, he is a famous investor in the west with a very good long-term track record.

If you do a Google search on him, contrasting articles may show up. While few may show him in a good light, the others are critical of him for having a few bad years.

Net-net though, the billionaire investor has done quite well for himself.

A big reason for Einhorn's longevity is his ability to change his mind and make significant changes to his investment policy, in the face of a strong evidence.

One of my favourite Einhorn stories goes back to the year 2009 when he gave a presentation at the Value Investing Congress.

In the presentation, Einhorn recalls how he had recommended a home builder stock in the middle of the housing boom. His rationale for recommendation was that the stock was less risky as compared to its peers as it had lesser leverage and owned lesser land.

And for a while, he was indeed right. The stock quickly shot up 30% within a couple of months, resulting into nice, juicy returns for anyone who would have sold then. However, it was all downhill from that point onwards.

We now know how the housing bubble burst, courtesy the sub-prime crisis and how stocks across the board collapsed. Needless to say, Einhorn's stock also collapsed, resulting into a 40% loss over 5 years for anyone who would have acted upon Einhorn's recommendation.

Now, this is interesting. Was the 40% loss a consequence of bad analysis or bad luck?

A strictly bottom-up investor would dismiss the loss as bad luck as no one would have predicted the housing bubble in advance.

Had the bubble not burst, investors could have made a killing in Einhorn's recommendation. Hence, Einhorn just got unlucky here. Einhorn himself did not agree with this though. He called it bad analysis instead of bad luck.

And what made Einhorn think this way? Well, a super investor who answers to the name of Stanley Druckenmiller.

You see, the very same day Einhorn made his stock recommendation, Stanley Druckenmiller also made a presentation. But Stanley's presentation wasn't a bottom-up analysis of a stock. Instead, it was a top-down analysis of the bubble that he felt was brewing in the real estate space.

He explained in gory detail the big picture problem the country faced from a growing housing bubble fueled by a growing debt bubble. Einhorn was there when Stanley made his presentation. However, Einhorn chose to ignore it.

Simply because he believed that even if Stanley was correct, it was very difficult to make money from this top-down analysis as such events are almost impossible to time.

So, Einhorn chose to look the other way as he felt that even if Stanley 'were' right, there was no way to know 'when' he would be right. As per Einhorn's own admission, it was an expensive error.

Stanley's prediction came true within a couple of years, and we witnessed one of the biggest financial crises of all time. Einhorn's ignorance cost him dearly to be honest.

To Einhorn's credit though, he acknowledged his mistake and got down to making appropriate changes to his investment strategy.

Here's him in his own words...

• The lesson that I have learned is that it isn't reasonable to be agnostic about the big picture. For years I had believed that I didn't need to take a view on the market or the economy because I considered myself to be a "bottom up" investor.
  
  Having my eyes open to the big picture doesn't mean abandoning stock picking, but it does mean managing the long-short exposure ratio more actively, worrying about what may be brewing in certain industries, and when appropriate, buying some just-in-case insurance for foreseeable macro risks even if they are hard to time.

Well, Einhorn's current bet on gold seems that he has indeed walked the talk since then.

While he remains a bottom-up stock picker, he believes that it is very important to protect capital in the face of foreseeable risks.

So, taking cue from David Einhorn, how exactly are you preparing for a possible macro risk that could lead to a stock market crash in 2024? What is the insurance that you are thinking of buying?

Well, I will tell you what I am going to do.

Like Einhorn, even I am a bottom-up stock picker when it comes to my various offerings.

And like his new avatar, even I am keeping my eyes and ears open to the big picture. Unlike Einhorn though, I am not relying on gold but a cash component.

Yes, that's right. The cash or the FD component that I insist on having for majority of my offerings, is an insurance against a big market crash.

It not only helps in minimising a loss during a market crash, but it also makes funds available to buy stocks on the cheap.

In fact, this component has already come to my rescue a few times in the past. The reason my subscribers were able to lose less than the broader market in the smallcap crash of 2018 or the Covid crash of 2020 was because we had a large part of the corpus in fixed deposits, which we then started deploying aggressively after the crash.

It won't be wrong to say that a large part of the good performance that we are seeing in these services, came from these two events.

That we were able to turn greedy when others had turned fearful and running the other way, was majorly down to our practice of always keeping some part of the corpus in fixed deposits.

And we don't mind continuing with this policy even though it may hurt our performance in a bull market like the current one. For we know that when a crisis strikes, which eventually it will, this insurance will be worth its weight in gold.

So, we are willing to bear the short-term pain for the long-term gain. Like Einhorn, we aren't abandoning bottom-up stock picking.

But we aren't being agnostic about the big picture either. We are always keeping a minimum 25% of the corpus in fixed deposits at all times and then adjusting this allocation upwards based on the broader market valuation.

If the broader market is expensive, we will increase the fixed deposit component and if it turns cheap, we reduce the exposure and increase the allocation to stocks.

This has served us really well in the past and there's no reason why it won't do so in the future as well.

So, always be prepared for a crash whether it comes in 2024 or any other year.

Happy Investing.

Warm regards,


Rahul Shah
Editor and Research Analyst, Profit Hunter
Equitymaster Agora Research Private Limited (Research Analyst)