David Einhorn's Greenlight Capital has taken a position in Twitter, betting that Elon Musk will decide or be forced to buy the company.
Much has been written on the likelihood of the deal and the legalities. Recently, the stock has made some headway after a report that Musk's bankers believe he's resigned to lose the mid-October trial but is aiming to lower the deal price. Einhorn also lost money shoting Tesla previously, so I can't rule out that there's some revenge trading going on here.
But what I want to focus on is how Einhorn justified the trade in a letter to clients, which Reuters reported on today.
"At this price there is a $17 per share of upside if TWTR prevails in court and we believe about $17 per share of downside, if the deal breaks. So we are getting 50-50 odds on something that should happen 95%+ of the time," the letter said.
The deal price is $54.20 and it's trading at $40.96. Einhorn said his fund's average price is $37.24 so the math works out. TWTR's pandemic low was $20 so that's reasonable as well, though stocks tend to undershoot on busted deals.
In any case, this is a great example of probabilistic thinking and risk taking. Of course, you need to have a reasonable basis for all those probabilities but he's accepting a risk that he could be wrong and take a large loss while weighing that against the upside.
May the odds be in your favour
In every case of trading, you're really just looking for bets with probabilities in your favor. If you can find that edge, you still need to accept that you'll be wrong much of the time and you always have to monitor for new information (and changing probabilities).
The great thing about markets is that you don't have to take 51% probabiltiy bets. As Warren Buffett said, comparing investing to baseball:
“The trick in investing is just to sit there and watch pitch after pitch go by and wait for the one right in your sweet spot. And if people are yelling, ‘Swing, you bum!,’ ignore them," he said.
That gets back to my trading mantra: