Cash in your hand is the most pure liquid asset you can have but does not produce a return over time which is why it is essential to own other assets. But what is the difference between a liquid and an illiquid asset? Is there even a difference?
The answer is yes, a liquid asset is an asset you can quickly turn into cash at any time. Lets say you run into a financial emergency. Generally, the first place your going to look to is your assets. A stock is considered to be a liquid asset because you are capable of immediately selling this stock for cash the next day the market is open. Next you will be able to transfer this cash from your brokerage to your bank account. Once the money enters your account you can spend the money on your financial emergency, this establishes it as a liquid asset. On the other hand there are illiquid assets, which are the exact opposite of liquid assets.
An illiquid asset is an asset that cannot be quickly exchanged for cash or is unable to be sold quickly for its full value. Think about it like this, a car is an illiquid asset due to the fact that in order to get the true value of the car you need take time to find the right buyer who is willing to pay the price you are looking for. Yes, you could sell it quickly however, nine times out of ten your going to get a significantly lower amount than the car is worth. This does not mean illiquid investment options, such as real estate, are a bad choice but it is essential to consider having a solid balance between liquid and illiquid assets.
Here are some examples of both liquid and illiquid assets to put it into perspective:
Liquid Assets –
- Checking Account
- Money Market Fund
- Mutual Funds
Illiquid Assets –
- Real Estate
- Art Collection
- Wine Collection
- Other collection items that are physical objects