One term that a beginner investor may come across is “liquidity.” When you begin to consider your overall situation regarding finances as well as examine which investments are worth your time, investor liquidity may prove itself as an important factor. Just what is liquidity?
Simply put, liquidity is the ability to quickly turn an asset into cash. It also involves purchasing as well as selling without impacting the price of an asset. So regarding investments, liquidity is how easy it is for you to buy or sell. As cash is able to be used to purchase pretty much anything, it is one of the most “liquid” of assets. When it comes to the major exchanges, a number of stocks are considered liquid as they can be converted to cash in a timely manner.
Not every asset is easily liquidated, however. For example, say you have a sizable amount of your net worth tied into your home. Especially if you have not built equity, it isn’t always easy to use that value. Of course, there are other assets that are illiquid, such as certain debt instruments as well as private company shares. While sometimes you may be able to find buyers, in a time of economic hardship you could lose a significant amount of money, and that is if you are able to find buyers at all.
So why is investor liquidity important? Having illiquid assets is not terrible in and of itself. But it is a very good thing to have some of your wealth tied into assets that you can sell quickly and without affecting the price of the asset in question. Illiquid assets are best kept until the opportune moment to sell when they have garnered value appreciation, and that is not always convenient for an investor, especially if there are no buyers immediately.
Consider, too, that cash is not always liquid. For example, if you have a certificate of deposit, it is clear that while you technically possess that wealth you will not be able to access it for some time. Until that time, any attempt to get to the funds would result in a penalty. And sometimes these penalties can be quite hefty. Therefore, when you are planning out your wealth as well as your investment plan you may want to make room for assets that will be easy to liquidate if the need arises.
For the beginner investor, when you are putting together your portfolio it is important to consider liquidity. It’s also a good factor in all parts of your financial life. Consider your long-term financial goals as well as those financial goals for the short term. For example, what would you do if an emergency arose? Before you make an investment, consider whether or not it would end up tying up your wealth in such a way that you would have nothing if you needed your wealth quickly. No matter what you choose to invest in, planning to own assets that you can easily liquidate will benefit you in the future.
