Understanding Asset Liquidity


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“Money is plentiful for those who understand the simple laws which govern its acquisition. ” -George Clason

Let's start by defining asset liquidity. Liquidity refers the degree that an asset can be purchased and sold without affecting the price. Liquidity also refers to the ability to take an asset and sell it quickly for money. Liquid assets are better investments because they allow the casual investor to take their money out of the asset as they need it. High liquidity investments include money markets and blue chips. Basically liquidity is the measurement of how quickly an investment can be exchanged for cash at a low loss.

Any type of long term investment has low liquidity. For example 401k's, and IRA's are hard to exchange for cash because they have penalties and taxes associated with early withdraw from those accounts. A great deal of time is needed to sell this type of investment and therefore cash is not readily available from these options.

High liquidity options include stocks which are traded publicly. These investments can be sold easily with almost no loss in value, no fees, or taxes. The important question to ask yourself is how much liquidity do you need in your assets. Most individual investors need to have at a least a moderate level of liquidity. Individuals are often subject to unexpected expenses like medical bills, or lay offs. It is important to have cash easily available in case you need to pay for something important.

Most financial advisors suggest that a stock portfolio consist of high and low liquidity investments. Long term investments are essential for saving for retirement. However, this type of investment should not be touched before maturing. Therefore, it is important to have some stocks which are creating profit but can also be easily sold if you need the money. Having a balanced and diversified stock portfolio is extremely important if you want to be a successful investor. Many financial planners suggest that investors create an emergency fund.

This fund should consist of at least six months of expenses and should be placed in a high interest money market account that you can draw checks on. This is a good solution for low liquidity investments. Instead of having to endure early penalties and taxes because you need money, you can use your emergency fund. Liquidity is the most over look characteristic of stock options. Often the new investor will not realize the need for liquidity until after they have invested all their money in low liquidity vehicles

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