Liquidity Risk in Investing

 

Liquidity Risk  pci

Liquidity Risk
Image: investopedia.com

Former Belvedere, California, resident Michael T. Jackson is the founder of SFG Asset Advisors (SFGAA). Having moved from Belvedere to Florida, Michael T. Jackson oversees investment activities at SFGAA, including managing portfolio liquidity risks.

In investing, liquidity risk is the risk that an investor will not be able to find a market for his or her investment. It is the risk that an investment will not be bought or sold fast enough to mitigate losses.

The risk plays out in the market when buyers and sellers of securities are not able to find each other quickly. As a result, buyers raise their bids, or sellers sell below their target price. For example, an investor holding a bond valued at $100,000 may need cash quickly but is unable to find a buyer for the asset in the market. The investor ends up selling for less money to meet his urgent liquidity need.

Although this risk is more prevalent in markets for long-term illiquid investments, such as real estate, fundamentally, every asset carries a certain amount of liquidity risk, depending on factors such as market efficiency and the availability of buyers. In the market, this risk is usually reflected in wide bid-ask spreads or unusually wide price movements.

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