Updated on March 6, 2023
Liquidity is the ease with which an investor can convert a financial asset into liquid money. Liquidity for stocks, Mutual Funds and ETFs means the ease and quickness with which such assets can be sold on the exchanges/stock markets to be converted into cash for making funds available. Stocks can be sold directly in the market, though in the case of ETF or Mutual Funds, their composition will also impact liquidity. For instance, MFs and ETFs can have stocks, bonds, or commodities as part of the portfolio.
Features of Liquidity
Some features of Liquidity are:
1. The type of assets impact liquidity. For instance, large-cap stocks, MFs or ETFs are considered to be highly liquid as compared to small/mid caps.
2. If the stock, mutual fund or ETF does not trade frequently and in substantial volumes, it might be tough to move out from the investment or to convert it into cash.
3. In case of insufficient trading volumes, there might be an issue with redeeming such investments.
4. Liquidity is also dependent on risk and reward. A financial instrument with lower investment risk will be more liquid and thus trading and investing in such assets will be easier.
5. The demand and supply forces also impact trading volume and liquidity. If the volume of an ETF’s underlying securities is high, the ETF’s liquidity will also rise.