Liquidity

The ease with which one can buy or sell an asset. So, a US T-Bill is very liquid — you can buy or sell any number in the blink of an eye; a power station in the lawless mountainous badlands of central Asia is very illiquid — it may take three years of due diligence, all kinds of legal, regulatory and accounting engineering, and the conveyance of a few bags of cash in brown paper bags to local gentlemen in Kalashnikov-equipped Hiluxes.

Illiquidity

Liquidity is really a function of the ease with which demand and supply can be matched. It will always be a job with big, complex, privately held assets, but even usually liquid assets (like listed equities) can suddenly become illiquid. This could happen:

• When the issuer is in trouble. Then, all the world’s a seller, and no-one is buying. Hence: liquidity zero. Sellers are stuck with assets they don’t want. This kind of illiquidity is credit-related.
• When the market is in trouble: In 2007 the credit crunch was caused by reliable investors (typically commercial and investment banks), spooked about their own capital positions, suddenly deserting the commercial paper market to conserve their own cash reserves, rather than anything specific to the AAA assets they were buying. Thus the old saw: “don't use short-term assets (like commercial paper) to fund long-term liabilities (like mortgages)”. Not the great example, because there was an element of credit concern in the strike, but the point remains that illiquidity can be driven by lender credit weakness, not necessarily borrower credit weakness.

See also

• Liquidity period
• Illiquidity
• Term