Welcome back everyone! This is Andrew Horowitz and you are listening to the Winning Investor – Quick and Dirty Tips. And today we will discuss ideas and information on becoming a Winning Investor!
I thought we'd take time on this show to answer a reader's question about liquidity and liquid investments.
Listener Vedo emailed me recently to ask, "During these economic times investing is somewhat of a frightening thing because of such high uncertainty. What are some highly liquefy-able investments?" Thanks Vedo!
Absolutely - investing in 2008 and perhaps in 2009 was some of the scariest times, and we want to be sure we're safe and able to sell or buy investments without any delay.
Liquidity refers to the ability to turn your investment into cash quickly. By definition, cash - or the dollar bills you have in your wallet - is the most liquid asset. In fact, the old-fashioned way of stuffing cash under your mattress or burying it in your backyard used to be the most liquid investment, but that isn’t really an investment and let's be honest - that's not the safest place for your cash anyway!
Another way to look at liquidity of an investment is to see if it has some of the following features: It can be sold rapidly, with minimal loss of value, any time within normal market hours. There must be willing and active buyers and sellers to get you into cash the moment you want to.
Stocks are considered very liquid investments, especially now with the advent of accounts available to the public without having to go through a stock broker. You can buy a stock and sell it the exact same day with small 'friction' or transaction costs.
However, it's important to note that some stocks are more 'liquid' than others. Big stocks where everyone knows what the company does - like Google, Apple, Wal-Mart, Kraft Foods - are considered highly liquid stocks because investors are buying and selling them all the time.
On the other hand, smaller companies and "penny stocks" might have very few people trading or investing in them, and would be much less 'liquid' in that you might have some difficulty selling these quickly. Sometimes we refer to this as having a limited market.
Beyond stocks, there are mutual funds which are slightly less liquid because for some funds you can only buy or sell shares online or through an authorized broker, and even if you can buy a mutual fund directly, the transaction will only be done at the end of the trading day. 4pm to be exact. Contrast this with stocks and ETFs (exchange Traded Funds) which can be sold at any point in the trading day - with or without going through a stock broker.
Moving up the scale, CDs or Certificates of Deposit at a bank often have a maturity of a few months to a few years. Those with a lower 'maturity' or time you have to hold them before you can redeem them or sell them to get your cash back, would be more liquid than longer term CDs that you would have to hold for 1 or more years before you can get your money back. You can always sell them in the event of an emergency but you will normally get hit with an early withdrawal penalty and sometimes forfeit the interest you received - which is not your goal.
Bonds like Treasury Bills or Treasury Notes are less liquid to the general public because you have to hold them to maturity. This means that if you purchase a 10-Year Treasury Note, then you would need to hold this 10 years before you could sell it to get all your money back with the expected interest. 30 Year Treasury Bonds are even less liquid than those because you would be tied up for 30 years!
Real Estate, or buying houses or land in hopes of price going up would be much less liquid than stocks and bonds because of the time it can take and the transaction costs of selling the property. If you want to get cash quickly and you have invested in real estate, it can take months to convert your property into cash, and you would have to pay fees and commissions which can be up to 5% or greater on your sale price. The time it takes to sell your house, and the fees you pay to your agent and lawyers, make real estate generally an illiquid investment - though it can be good for the long run.
I hope this helps in getting you thinking about 'liquidity' and how quickly you can exit a position or an investment when you have to raise cash if you feel your investment has turned south or if you want to get in to profit on a potential rise.
If you have questions, please feel free to email me at winninginvestor@quickanddirtytips.com.
Keep with us as we discuss even more ways to become a winning investor in our next podcast! If there’s a question you’d really like to ask, just email me at winninginvestor@quickanddirtytips.com or call 206-338-0836. That’s 206-338-0836 and maybe your question will appear on the show. And if you like the show, tell a friend or leave a review on iTunes. Until next time, this is Andrew Horowitz with The Winning Investor’s Quick and Dirty Tips for Beating the Market wishing you all the best on your quest to investment success.
