Warren Buffett is considered to be the greatest investor that has ever lived. He didn’t achieve this title by accident. Decades of experience have helped him build an unrivalled mental encyclopaedia of the stock market and world of investing. He’s been through several market crashes and been able to profit from decade-long rallies. There is little that goes on in the market that surprises the Oracle of Omaha; he’s experienced almost every market environment.
Luckily, Buffett is happy to share his wisdom, and one of the topics he talks about most is preparing for a market crash.
This topic featured in Buffett’s 2016 letter to shareholders of Berkshire Hathaway, which was published a few weeks ago.
Preparing for the crash
So, how is the world’s second richest man preparing for market turbulence? He isn’t.
Buffett is considered to be the world’s greatest investor and is also the world’s most optimistic one. For Warren Buffett, there are three certainties in life, death, taxes and rising markets.
This may seem like a reckless viewpoint at first, but it makes a lot of sense. As noted above, Buffett has been through many market environments, and every single market collapse he has seen has turned out to be a great buying opportunity. Even events such as the 2008 financial crisis, turn-of-the-century dot.com bust and 1987 Black Monday crash — all of which seemed to be the end of the world for investors at the time — have turned out to be nothing more than speed bumps in the steady grind higher of markets.
Plenty of opportunities
Every single market crash Buffett has experienced, has presented opportunities. And over the following years, these opportunities have generated billions of dollars in profits for the Oracle of Omaha.
What’s more, Buffett has never been one to move in and out of stocks depending on his view of the market. He’s been investing long enough to know markets are unpredictable and trying to time the market by jumping in and out of stocks can be a costly endeavour — a waste of time, money and lost profits. It’s easier just to remain invested. When you know that over the long term the market is almost certain to rise, what’s the point in wasting energy trying to beat it?
A market hedge
Having said all of the above, Buffett does have one preferred method of preparing for a market meltdown, which is relatively easy to understand and straightforward to implement.
The billionaire likes to hold a healthy cash balance that can be deployed when opportunities present themselves. Market downturns are perfect for such capital deployments as it’s during these periods when other market participants usually pull back giving Buffett free reign.
At the end of 2016, Buffett reported Berkshire had an estimated $86bn of cash ready for deployment, a huge hedge that will give the firm plenty of protection against a market downturn.
So overall, Buffett is preparing for a market crash this year by simply raising his cash balance and ignoring the hype.
Don't chase yield
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Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.