Why Do Good Stocks Still Crash? (Mohnish Pabrai on buying Seritage Growth Properties)

And instantly, the stock went to six to nine dollars a share. So that was the price at which somebody else was willing to buy that seat, me being one of them. And, uh, I own, uh, one eighth, little more than one eighth of all the seats in that theater, so I must like the movie.

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Hey guys, welcome back to the channel. In this video, I'm going to be sharing a clip with you guys of Monish Prabrai discussing exactly how stocks crash. This is a clip that I really wanted to include in my last video that I made about Monish, probably. However, it ended up being a little bit too long, so I thought I'll just make a quick standalone kind of video on this clip.

So for context, in this Q and A session, somebody asked Monish Prabrai about his position in Seritage Growth Properties. And Seritage Growth Properties, that is a stock that Monish Prabrai has owned in his fund since Q2 of 2020. He bought it after the stock crashed from about forty dollars per share all the way down to about six dollars and fifty cents. So it crashed massively.

But Monish, in trying to avoid direct commentary on the position that he owns, instead uses this analogy to explain why he bought Seritage Growth Properties. And it's a fantastic analogy because, as I said before, it explains why all stocks crash, not just Seritage. So have a listen. This is quite a long clip, so I'm just going to play the clip out in its entirety, and then we'll come back after and have a bit of a discussion about it.

So here it is:

"The stock market is like a theater. And in the theater, the rule is that every seat has to be occupied. Or in other words, if there is a business and it has 10 million shares outstanding, every one of those shares has to be owned by somebody. There's no shares just sitting there with nobody. So the seats in the theater are fully occupied, and they always have to be fully occupied.

And now there is a fire in the theater, or someone yells 'fire.' So when you hear the word fire, you want to just get up from your seat and go to the exit. You don't want to really ask any questions whether there's a real fire or a fake fire. You just say, 'I am out of here.'

But there's a rule in this theater which is different from the other theaters, that you can only leave your seat if you find somebody else to take your seat. Because that share has to be held by someone. Right? So it's not like you can just leave the theater and the seat will be empty. No, the rule is you can leave the theater, but you need to find somebody outside who will come and sit inside the theater.

So you know, you go outside the theater and say, 'Listen, it's okay, the movie is great, there's a little bit of fire, and there's some smoke, but don't really worry about it, it's really probably nothing. But I'm giving you my ticket, which cost me ten dollars; please, you can have it for fifty cents, do you want to take it?' And the guy says, 'You know, not really.' He says, 'Listen, please take it for twenty-five cents.'

Okay, so there is a clearing price for the ticket because you can't leave until somebody sits in your seat. And so now we will answer the question on Seritage at some point when I don't own it. Okay, sometime in the future I will not own it. I would just say that before Seritage was trading at 35 or 40 dollars a share, and there was suddenly a fire, and instantly the stock went to six to nine dollars a share.

So that was the price at which somebody else was willing to buy that seat, me being one of them. And, uh, I own, uh, one eighth, little more than one eighth of all the seats in that theater, so I must like the movie. It may be a little warm under my seat, but the movie is great."

How good is that clip? I really, really like that analogy because not only does it explain why Seritage Growth Properties went down, why Monish Prabrai then wanted to buy in, but it just explains why any stock goes down and why investors might want to buy into any stock at a lower price.

So, as Monish Prabrai says, you know, every share has to be owned, uh, all the seats in the theater have to be taken. If there's a fire, you can't leave until you find someone else that's willing to take your place. And of course, if there's a fire, most people won't want to take your place, even if you're watching the flippin' Wolf of Wall Street.

So in order for that person to take your place, they're going to need a really good deal. And when Monish bought Seritage Growth Properties in Q2 of 2020, that was right at the height of the global lockdown. So at that point in time, that's pretty much where every single theater on the planet had some level of fire in it.

And if I was to add to the analogy a little bit here, what I would say is what we're doing as investors is we're trying to stand at the entrance to these theaters and we're trying to kind of get a little peek inside of what's going on. And we've got to decide, you know, what theaters are really burning to the ground and what theaters I think there might just be a little bit of smoke.

But you know, I see a fire extinguisher over there on the wall, so it's probably not too bad. For example, travel-related businesses like airlines, cruise lines, hotels, you know, holiday parks, those sort of companies, if we looked into those theaters, yeah, they were really burning.

So in that case, it was very hard for the investors that were trying, or the ticket holders that were trying to rush towards the exit. It was very difficult for them to get out, and they had to really sell their tickets very cheaply in order to escape the theater.

Whereas companies like Netflix or Google or Facebook, any of those kind of companies, really, there wasn't much of a fire going on. I think some of the people in that theater just kind of smelled a little bit of smoke, and that's why they all wanted to rush towards the door.

So overall, we as investors are looking at all these theaters where the people in the theater are trying to rush towards the exit, and we have to decide on two things. We have to figure out how good the movie is, how much do we want to watch that movie, and we also have to figure out how big is that fire going to be.

If the fire is really raging and the movie's not really that good, then we're probably going to take a pass. Right? However, if the movie is fantastic and, you know, people are only just smelling a little bit of smoke and you see that fire extinguisher on the wall, then chances are likely that we can get a really good deal and everything's going to be totally fine.

So what the analogy is ultimately telling us is, first of all, we want a good business, so we want to go and watch a really good movie. Secondly, we need to make sure that the event is short-term and is not going to hurt the business. So we just want to smell smoke; we want to see the fire extinguisher. We don't want to see that fire that's raging.

And then thirdly, we have to make sure that we are getting a good deal. So we are only buying the ticket to get into the theater at a significant discount to what that ticket to see that movie would normally cost.

And overall, that is the analogy as to how stocks crash and how we as investors end up getting good businesses at discounted prices. It's really all about panic. As Monish Prabrai says, you know, if you're in the theater watching the movie and somebody yells out 'fire,' then you don't really wait around and see if everything is going to be okay. Generally, most people just stand up and they'll go to the exit.

But of course, it's everyone trying to leave at the same time that is ultimately what causes the problem. And especially in this analogy where you need to find someone to take your place, of course, if there's a whole heap of people trying to get out at the same time, then it's really a question of who is most desperate to get out of this theater.

So of course, you have to keep lowering your price if you really want to get out of the theater. You have to keep lowering and lowering your price until you c until you're the cheapest, until you've got the cheapest ticket that convinces somebody on the outside to buy it and come into the theater.

And that is ultimately why stocks crash. The fire has started, and people are much more desperate to get out than people are willing to come in. So that is the theater analogy; that is the reason why stocks crash.

And as I said before, this is a clip that I pulled out of a much longer Q and A session that Monish Prabrai did quite recently with the students of Georgetown University, I believe it was. So if you are interested, I mean, I've already made one video about just this Q and A. So if you wanted to, I'll leave the full Q and A linked down in the description below.

It is a very, very good video full of investing nuggets and lessons from Monish Prabrai. I don't know, just the way that Monish Prabrai talks, he just packs so many investing nuggets into every kind of media appearance he does. So I really enjoyed it. I would definitely encourage you if you've got an hour, go and have a listen to that talk.

And yeah, as I said, link down in the description below. But anyway, that is it for this video today, guys. Thank you very much for watching. If you are interested in how I go about my investing, passive investing or active investing, a lot of Monish Prabrai's kind of principles are what I base my active investing around alongside, you know, Warren Buffett, Charlie Munger, Peter Lynch, those kind of guys.

If you're interested in learning about how I go about my investing, then you can check out Introduction to Stock Analysis, that's linked down in the description below. The links will take you over to Profitful, which is my business that I run alongside the YouTube channel to make sure that the channel stays financially viable. So I really appreciate it if you want to check that out. Links down in the description.

But that is it for today. Leave a like on the video if you did enjoy it. Subscribe to the channel if you want to see more videos similar to this, and that's it for today. I'll see you guys in the next video.

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