Most people know Mark Cuban as the billionaire entrepreneur who appears on ABC’s reality show “Shark Tank,” and sports fans may know him as the former owner of the Dallas Mavericks.
But on Wall Street, Cuban is famous for using savvy options trades to protect $1.4 billion in stocks from the stock market crash of 2000. “The whole market crashed, but I was protected,” Cuban told Howard Stern in 2013.
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Here’s how this investing legend averted disaster when the dot-com bubble burst.
Cuba’s collar trade
In 1999, Cuban and his business partner Todd Wagner decided to sell their online streaming company Broadcast.com to internet giant Yahoo. The company was acquired for $5.7 billion, and Cuban owned about a third of the company, making him an instant billionaire. According to Business Insider, Cuban’s Yahoo shares were worth about $1.4 billion at the time.
There was just one problem: Yahoo didn’t pay Cuban and Wagner in cash. Instead, the deal was made in Yahoo stock, which was soaring amid the growing hype around tech companies. Apparently Cuban was spooked by the inflated valuation, predicted the bubble would one day burst, and decided to take steps to protect his payment.
“I hedged,” Cuban told Stern, “so I sold calls and bought puts, so I protected my stock. And the stock price went up, up to where I had hedged, and I cashed out.”
This transaction is known in the investment industry as a “collar.” By selling a call option, an investor can give up the stock’s upside if the price rises above a certain level, and by buying a put option, they can limit their losses if the stock falls.
In other words, Cuban had essentially frozen the value of his Yahoo shares at that point, before the market crashed six weeks later, he says.
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“They called it one of the top 10 deals in Wall Street history,” he said with a laugh.
Cuban’s actions highlight how wealthy investors think about downside risk. Savvy investors take steps to protect their wealth in case the economic cycle turns sour. With that in mind, here are three ways average investors can protect their wealth if the market crashes in the short term.
Hold onto your cash and continue to invest
Cash and cash equivalents (savings, checking, money market accounts, and short-term investments) are thought to provide liquidity and safety. Having a strong emergency fund can protect you from the risk of selling your investments and taking a loss during a market downturn. As a general rule of thumb, cash and cash equivalents should make up 2% to 10% of your portfolio, according to U.S. Bank.
Bonds
For years, bonds have been the most boring asset class on the market, with the Federal Reserve keeping its benchmark interest rate at historic lows of near zero after the great financial crisis of 2008. But that changed in March 2022, when the Fed began raising interest rates to combat inflation. Currently, the benchmark interest rate is at 5.33%.
With the 10-year Treasury note currently yielding 4.3%, meaning you can get a fixed rate of return for 10 years with very little risk, bonds are once again a hot safe haven.
Money
Economists such as Peter Schiff and Alan Greenspan have always considered gold to be a hedge against inflation and economic turmoil. While currencies can depreciate, tangible assets such as precious metals are considered a store of value and a safe haven.
According to an analysis by investment firm Sprott, during the seven crisis periods from 2007 to 2009, gold rose an average of 13.98%, while the S&P 500 Total Return Index fell an average of 9.6% during those periods.
Holding a small gold position can add a buffer to your portfolio.
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This article is for informational purposes only, should not be construed as advice, and is provided without warranty of any kind.
