Elon Musk says he sold Tesla stock to free up cash in case a 'worst-case scenario' strikes. Here's what he's so worried about.

• Elon Musk sold Tesla stock this month to free up cash in case a "worst-case scenario" emerges.
• The Tesla CEO warned higher interest rates and a recession may hit Tesla's profits and stock price.

Elon Musk's reason for selling close to $4 billion of Tesla stock this month was to free up cash in case disaster strikes, he revealed in a Twitter Spaces conversation with Whole Mars Catalog on Thursday.

The automaker's CEO appears to be worried that if higher interest rates are compounded by a serious recession, he and his companies could suffer.

"I needed to sell some stock just to make sure there's powder dry to account for a worst-case scenario," Musk said. Here's a closer look at why he's taking precautions.

Why is Musk worried about interest rates and a recession?

Inflation surged to a 40-year high of 9.1% in June. That spurred the Federal Reserve to hike interest rates from virtually zero in March to over 4% today, and to signal they could peak above 5% next year.

Musk explained that higher rates are especially painful for automakers, as their customers mostly buy cars with loans and leases. They pay close attention to their monthly payments, which typically rise alongside rates.

The higher cost of borrowing effectively increases the price of cars, meaning manufacturers have to cut prices to keep customers or bring more in, Musk said. As a result, rate increases tend to temper demand and eat into automakers' profits, which can weigh on their stock prices.

At the same time, higher rates mean people get better returns from safe assets such as savings accounts and government bonds. That makes them more appealing to investors when compared with riskier assets such as stocks, Musk added.

Tech stocks like Tesla tend to be valued largely on their potential future earnings. Those profits become less valuable when prices are soaring right now, yields on other assets are rising, and a recession is threatening to scupper companies' growth plans.

As well as pointing to rates, Musk warned a severe recession would hammer sellers of big-ticket items bought on credit. In tough times, consumers will stop buying those products before giving up staples, he said.

"Things that are bought with debt — basically, housing and cars are going to be the two biggest — are really going to get disproportionately impacted," Musk said.

How could a downturn affect Musk?

Tesla stock has already plunged nearly 70% this year, as investors have fled growth stocks and swapped equities for safer assets.

If higher rates keep dragging down the wider market, and combine with a recession to deal a one-two punch to Tesla's profits, the automaker's share price could tumble further.

Musk has personally borrowed against his Tesla stock, and partly financed his $44 billion takeover of Twitter with bank loans that now sit on the social-media company's balance sheet.

If demand tanks at Tesla, the value of his shares shrinks further, and Twitter has to pay more interest on its debts — that could be the "worst-case scenario" he flagged.

Of course, Musk may simply be taking precautions, and it's not certain that he or his companies will get into trouble. The tech billionaire emphasized that Tesla is in excellent shape, and admitted he's "somewhat paranoid having gone through two really intense recessions."