23

Assume someone 'knows' that a market crash could occur within the next couple of months, and has no access to 'professional tools'.

What methods could this person use to prepare for the crash in such a way that not only will they not lose money, but they will gain money. Out-of-the-box answers such as "buy gold" (if that's really out of the box) are fine.

This is not a question about whether or not people should trust their assessment of the market.

  • You don't care that they'll lose money if they're wrong, just that they won't lose money if the market crashes? – Hart CO Sep 23 at 16:10
  • 3
    @HartCO Close. It should be "gain" - "It doesn't matter if the lose if they're wrong. Just that they will gain money if the market crashes." – ispiro Sep 23 at 16:12
  • 2
    Does this answer your question? How to make money from a downward European market? – yoozer8 Sep 23 at 16:30
  • The linked question specifically asks about Europe, but the answers should still be useful to a US audience. – yoozer8 Sep 23 at 16:31
  • 3
    If the market crashes severely, then any possible hedges could be worthless. IE: If most everyone lost money, any gains you make may not be worth anything, if the currency becomes devalued. Old joke: Man goes in a coma; wakes up 20 years later. Calls his stock broker on a pay telephone. Asks for stock price of IBM. Stockbroker says "$20 million per share." Man is ecstatic, until telephone operator comes on the line and says "Please deposit $60 million dollars for the next 3 minutes." – Mark Stewart Sep 24 at 19:25
47

Let's assume you know reasonably well when a market crash will occur. There is significant risk associated with trying to 'time' the market, and you should make yourself familiar with those concepts before proceeding.

If you are an average 'private person' investor, there are a few ways to make money from a crash, and here are 3 significant ones:

  • You could short a particular stock or diversified fund that you expect to drop. 'Shorting' means you borrow a share from someone else in the open market, with the promise to return that share back to them. Immediately upon borrowing the share, you sell it to a 3rd person in the open market. So you borrow someone's share of Tesla, currently trading at $390, and sell it for $390. Let's say next week Tesla announces some big problem, or the economy goes downward and all car makers look like they will not be able to sell as many cars, or whatever. Tesla shares then trade at $360. You buy a share of Tesla for $360, and give it back to the person you borrowed it from. Now you have $30 cash in your pocket.

[note - shorting is higher risk than regular stock ownership, because (a) your losses are unlimited, for example if Tesla invented a Vibranium car, and stock rose to $800, you would lose $410 for each share you shorted, which is larger than the amount you originally had; and (b) markets generally go up in value, so shorting is a specific moment-in-time assessment, and shouldn't be done on a consistent long-term basis, unlike simple diversified investment in the stock market]

  • You could buy a 'put' option. An 'Option' is the right to buy (a 'call option') or sell (a 'put option') something at a specific price, at some point in a specified period of time. For example, buying a put option for AAPL with a $120 strike price that expires in 6 months, would give you the right to sell a share of Apple stock for $120, at any point in the next 6 months. Right now, with Apple trading at $125, you wouldn't want to exercise that option, but if the price drops to $115 in December, you could choose to exercise the option, and sell a share of Apple for more than you would be able to in the open market [really when you exercise the option you would just receive $5, you wouldn't need to actually transfer shares]. The benefit of an option vs shorting the stock, would be that your risk is well defined - you pay some money up front for the right to choose whether to exercise the option, and if the anticipated crash never happens, you don't lose anything further.

  • You could buy something you think will do well during a bad economy. This could mean gold [common 'market wisdom', but see Bob Baerker's excellent analysis of why this is probably not a great idea], or maybe 'vice stocks', like liquor and gaming which often perform well when people want to drink away their sorrows, or whatever else you think is associated with the crash incoming [maybe if you saw a Covid crash, you could have thought hospitals would do quite well? etc.]. The problem is that you may not know how these things will perform even if you do accurately time a market crash. So there is additional risk here.

  • You could buy stocks right after the crash occurs. If you have, say, 10k invested in the market today, you could sell it, or otherwise if you just have 10k lying around, you could just hang onto it and wait. Then 'when the crash happens' [this doesn't just mean 1 day of bad results, and can mean many different things that are very very hard to predict, including maybe a 6 month protracted drop in value], you buy things that you think will 'rebound', probably because you believe that panic during the market crash will make people emotional and overreact, thus undervaluing shares they used to own. Note that this practice often has another name 'catching a falling knife', meaning you could easily buy something on the way down, it continues to drop, and never fully recovers.

If you wanted to really 'make a big impact' using any of the above, you could go full-on risk heavy, and trade on a margin account / borrow funds, and invest more than you have in available cash. Of course if you are wrong, and you took out a 2nd mortgage on your house and have losses preventing you from paying it back... the results can be disastrous.

| improve this answer | |
  • 2
    'A Short' is what I have outlined in the answer above, but you are right, you could say in common parlance "I am short on Australia's recovery", meaning something like "overall I have invested in such a way as to profit if Australia fails to fully recover", or even more broadly just "I do not believe Australia will recover." This would be the opposite of "I am long on the EUR", meaning you are more or less invested in such a way as to profit from Growth in Europe's economy, or its currency. The mechanics behind 'The Big Short' were close enough to 'A Short' as to be indestinguishable. – Grade 'Eh' Bacon Sep 23 at 20:16
  • 2
    @ispiro - To be generically short, you need to own negative delta. As mentioned in my answer, you can buy puts/short equities/ETFs/ futures, or buy inverse ETFs. I did not mention swaps because they're risky complex contracts and not for retail. AFAIC, the aspiring crash better should avoid large risk shorts (futures, ETFs, equities). Buy a few puts and if you bet pays off, you can roll them down, booking gains. If aggressive, normally you can pyramid them as well increasing your downside potential while playing with OPM (other people's money). This was very tough in March due to high IV – Bob Baerker Sep 23 at 20:52
  • 14
    Actually, the Tesla short scenario is WAY too tame. If you shorted a $2 small-time pharmaceutical, and it suddenly shot up to $100+ because there is rumor of a big merger, then you are probably going bankrupt (you just lost 50 times the money you put in). Shorts can get ugly REAL fast. Here's a relevant story – Nelson Sep 24 at 5:48
  • 3
    @Acccumulation But... my pun.... – Grade 'Eh' Bacon Sep 24 at 12:38
  • 2
    @Nelson - The Joe Campbell story in your link is a prime example of doing everything wrong. You don't short $2 stocks. You don't short them in size (what appears to be something not far from 10k shares. You don't short $2 biotechs. You don't go into a meeting and leave the position unattended. Yes, shorting is risky but using the example of an idiot does not prove that shorting shouldn't be done. – Bob Baerker Sep 24 at 18:14
10

The scenario is a private person (as opposed to a professional in the banking system) who thinks/guesses that the market is going to crash in a short time.

'Short time' as in soon or as in drop very quickly?

A stock market crash is a steep double-digit percentage stock market drop over a period of several days. It involves panic selling and an abrupt, dramatic price decline (see 1929 and 1987). In order to profit from one, you have to have negative delta positions before it occurs (long puts, short equities or futures, long inverse ETFs).

Large corrections and bear markets are a different story. These are much easier to profit from since they usually take months to years to play out (See 2000 and 2008) and one can transition into correction mode. However, the drop in March was unusually fast.

How can this person prepare for the crash in such a way that not only will they not lose money, but they will gain money. Out-of-the-box answers such as "buy gold" (if that's really out of the box) are fine.

There is no such thing in the market as potential profit without risk (I'm ignoring arbitrage since that's in the domain of the pros). You can limit your risk but not prevent losses.

Many recommend owning gold in a bear market/recession. For the past three recessions:

  • In 1990, it lost about 10% of its value.

  • In 2000, it did nothing

  • In 2008 it dropped 30% from its peak price before recovering and ending up 4% for the year

Gold is ‘iffy’ during bear markets/recessions.

| improve this answer | |
  • I was thinking of a fall within a couple of days. Like what was depicted in "the big short". And there it seems that people were actually making money off of the crash. Though that might be only appropriate for those who are working with very large amounts of money and have the right connections. – ispiro Sep 23 at 16:46
  • Question: If the price of gold does not move, but the price of everything else drops 40%, is that not semantically similar to the price of gold rising 40%? – Ertai87 Sep 23 at 16:55
  • 1
    What was depicted in "The Big Short" occurred over more than a year. It began slowly in the latter part of 2007 and wasn't even over by the time Lehman cratered in September of 2008. "The Big Short" isn't a good example because swaps are not in the realm of retail investors. It is possible for retail to profit during a bear market but it involves a lucky guess or years of working toward financial literacy and developing the ability to understand and implement such a strategy. And FWIW, I was short Lehman when it went under :->) – Bob Baerker Sep 23 at 16:56
  • 1
    @Ertai87 regarding your 40% comment, that's really confusing a lot of issues. Do you mean the price of everything (milk, real estate, toyotas, beach balls) drops, or, the price of stocks drops? Note that if the price of stocks drops, all you have to do is "have cash" (ie .. "not buy stocks") to avoid that loss. It would be completely pointless buying X to "avoid a drop in stocks", you'd just ... "not buy stocks". Again your comment is very confusing and I fear you may be "mixing up issues" – Fattie Sep 23 at 18:01
  • 2
    ? it's 100% commonplace to hold cash as a decision, in various environments. note that - indeed - a totally common belief about what to do if you "believe market about to plummet" is indeed .. "hold cash" – Fattie Sep 23 at 19:27
9

If you believe the major US stock markets, will drop significantly (let's say, 20%), and you believe that will happen a couple of months from now,

that is very, very difficult to play.

If you believe it's going to drop "in a matter of days", you just short stuff.

(Short anything/everything you want. Use options, ordinary old shorts. Whatever.)

But if you feel it could happen any time from tomorrow until some months from now, I don't know any good way to play that without taking bad risks.

IMO (someone deeply experienced with derivatives may know better) there is NO way to play that. (ie, without harsh risk.)

(Betting on the markets is unfortunately about two things: direction a n d time. If you don't get both perfectly correct, you get totally screwed.)

| improve this answer | |
  • Thanks. +1. You mentioned in a comment to my question that it's easy to short by simply pressing the "short" button. What does that do? "Bet" with the brokerage firm? Borrow and sell (as mentioned in Grade 'Eh' Bacon's answer)? Something else? – ispiro Sep 23 at 19:54
  • 4
    @ispiro - They are scads of articles out there that explain shorting. Here's one of many – Bob Baerker Sep 23 at 21:00
  • 1
    I had a finance professor tell us about the time he lost a bundle by shorting Yahoo, back right before the tech crash. He saw the crash coming, but was a couple of weeks too early and watched the stock price continue to climb until (to limit his losses) his broker forced him to close his short position literally hours before there was an announcement of accounting irregularities that sent Yahoo into a tailspin. The moral is just what was said here. Knowing the direction means nothing if you don't also know WHEN. – nwhaught Sep 25 at 19:14
  • @nwhaught right ! perfect anecdote. yeah, "seasoned" or whatever traders never trade like that. it has to either work or not when you do it. – Fattie Sep 25 at 19:25
  • I heavily agree. I can predict with 100% certainty that every stock will crash to zero. Since I have no idea when this certainty is useless. – emory Sep 30 at 15:50
7
+150

The obvious strategy would be to sell up and amass cash, or access to cash equivalents.

In the event of a crash there will be bargains. Invest in "life's little luxuries" such as cosmetics. These are things that people will still buy during a depression. Nothing too high end though... Used car dealerships, people motivated to sell will sell. Make ridiculous offers on foreclosed real estate. Buy undervalued businesses with excess real estate. Buy undervalued businesses that are likely to buy back shares or return excess capital. Buy collectible Harleys and export them. Buy any business likely to be supported by stimulus measures, public works, Keynesian infrastructure projects. Maybe avoid exploiting the great unwashed too unfairly though.

All of these things will make you money, but you have to have your wits about you, consider your mortal soul, and not have lost your own money in the crash.

| improve this answer | |
1

You need a brokerage account where you can trade options. If you know that the market will crash within two months, buy put options with an expiry date more than two months in the future.

Puts are normally for 100 shares. If the put's strike price is $190 and its price is $10 then one contract will cost $1k and will entitle you to sell 100 shares for a total of $19k.

If the price of the underlying share falls to $90, the $190 put will probably trade for over $100 so you will be able to sell it for over $10k, a gain of $9k. If the contract has time premium remaining, it's better to sell it rather than exercise it.

The advantages of using a put option instead of selling shares short as other answers suggest are:

  • You don't need a margin account

  • It doesn't matter if the share price rises temporarily before the crash

  • Your risk is limited to the option price you paid if you are wrong.

| improve this answer | |
0

The best way is to BUY PUTS when you know a black swan is going to happen.

Make sure you reverse them correctly not 'sell' puts as that would not clear out your account from the buy puts you did first.

| improve this answer | |
-1

Hold cash, and then buy every month

First, your premise is flawed. To make money without the possibility of losing money, you need a market crash and then a recovery. With only a crash and no recovery, one method is to buy puts with long expiration, but this costs money so it's not guaranteed you will recover.

With no access to "professional tools", I'm assuming you will not have a clear signal of when and how much to buy, in general. So, the plan is:

  1. Hold cash for now (no nominal loss);
  2. Wait for the crash;
  3. Make a series of small buys, on index ETFs.

Plan your ETF purchases in such a way that the money will be enough for, say, 18 consecutive months. This will not guarantee that you will make money, but at least will improve the chances for you.

| improve this answer | |
  • Your answer is flawed. Other than arbitrage, every market investment has risk. There is always the possibility of losing money whether you are long, short or neutral. Saying that To make money without the possibility of losing money, you need a market crash and then a recovery is as silly as saying that to make money without the possibility of losing money, you need to buy securities before they go higher. – Bob Baerker Sep 26 at 14:53
-2

Buy low, sell high. That is it. It's fool-proof because math doesn't lie.

If you are currently invested and believe a crash is coming then sell now (high) and re-buy at the bottom of the crash (low).

If you are not currently invested then wait for the crash and buy low.

In particular this applies to well known companies such as Apple, Walmart, Amazon, etc...

Right now, the EV market in general is being treated like tech stocks during the dot-com bubble of 20 years ago; a lot of blank-check EV companies are rising 200-500% in a given day. If you want to take a gamble on EV then you don't need to wait for a crash. For recent examples look at SPI and SUNW.

| improve this answer | |

Not the answer you're looking for? Browse other questions tagged or ask your own question.