What Is the Difference Between Liquid and Illiquid Assets? (2024)

Searching for a high-quality cryptocurrency exchange can be challenging if you’re new to the process. Not all crypto exchanges are created equal, and well-known crypto exchanges like Binance and Coinbase have more liquidity than newer, lesser-known trading platforms.

Quality crypto exchanges work with liquidity partners (LPs) to reduce market volatility, encouraging traders to engage the market and change positions rapidly. If you’re vetting a potential crypto exchange, it’s important to ensure the one you choose has stable liquidity.

To better understand this concept, you should first learn about liquid and illiquid assets. Below, we’ll explain what to know about these assets, why they’re important, and how they differ.

What Are Liquid Assets?

A liquid asset is anything of value that can convert to cash quickly. Investors highly value these alternative investments because many are interested in getting a quick return on their investment.

If you’re planning on investing in liquid assets, here are some pros and cons to consider:

Pros:

• You can receive peace of mind by knowing you can cover unexpected expenses.
• You don’t have to incur high-cost debt.
• Investors don’t have to endure a forced sale of assets to raise cash.

Cons:

• Liquid investments often have lower rates of return.
• In the case of inflation, liquid assets can lose buying power over time.

Characteristics of Liquid Assets

Liquid assets are vastly different from illiquid assets. Here are some characteristics that separate the two asset classes:

Lower Spreads

Generally speaking, the more liquid an asset is, the better price it will command in the marketplace. Liquid assets like precious metals, stocks, and even exchange-traded funds (ETFs) usually have lower bid/ask spreads.

This means you’re more likely to receive premium bids that match or exceed the market value of your asset.

Market Availability

Liquid assets are typically always in demand. As such, there is always a ready marketplace to buy and sell.

On the other hand, illiquid assets are difficult to sell quickly. For example, real estate is one of the most common illiquid assets. It can take several months to sell real estate, whether it’s your primary home or an investment property.

Price Stability

Liquid assets almost always maintain their value during the sales process. Marketplaces with liquid assets on hand can easily avoid price slippage.

Price slippage happens when the asking price is lower than the actual selling price. Investors can be confident knowing they can sell their assets without any last-minute surprises.

Convenience

Liquid asset transactions tend to happen quickly, much to the benefit of investors who want to raise cash immediately.

Oftentimes, you can sell liquid assets within days. For example, finding a buyer for your gold assets is typically more convenient than if you were selling antiques.

Liquid Assets Examples

Many investors also want the option to quickly sell their assets for cash without any marketplace issues. Some common examples of liquid assets are:

• Money market funds: These are professionally managed mutual funds that invest only in highly liquid assets such as municipal bonds, cash, certificates of deposits (CDs), and government-backed debt.
• Mutual funds: This type of fund pools money from investors to purchase low-risk, low-yield investments. Since the investment pool has a high likelihood of profit, investors can get their return easier than high-risk investments.
• Stocks and bonds: While stocks and bonds fluctuate over time, they’re still liquid assets. You can quickly sell your stocks and bonds for cash on the stock market.
• Cash: Cash is the most liquid asset. Bank accounts, savings accounts, and accounts receivable are types of assets that can instantly convert into cash without any loss.
• Treasury bills: These are short-term debt securities backed by the United States government. This means their value is fully guaranteed if you want to convert these assets into cash.
• Precious metals: Gold and silver are two of the most valuable and liquid precious metals. They’re always in demand.

What Are Illiquid Assets?

Illiquid assets don’t convert to cash easily — specifically, not without a substantial loss in value.

While they are assets with tangible monetary value, it’s much more difficult to liquidate them. This doesn’t mean that illiquid investments aren’t valuable. Valuable commodities like cars and real estate are two common examples of these alternative assets. Here are the pros and cons of less liquid assets:

Pros:

• Illiquid assets are perfect for investors wanting to diversify their investment portfolios.
• These assets usually hold their value over a long period of time, meaning you’re much more likely to receive higher returns.
• Having illiquid assets in your portfolio can help you minimize your losses during a down market.

Cons:

• Illiquid assets are geared toward investors with a high-risk tolerance and require a substantial investment upfront.
• These assets have a longer lock-up period. This means you won’t be able to collect money or sell shares from your investment until it’s liquid.
• Illiquid assets have a long time of return. Many of these assets can take 5–10 years to return a profit.

Characteristics of Illiquid Assets

If you’re going to consider investing in illiquid assets, here are some characteristics you should be mindful of to make the right purchase:

Limited Market

Illiquid assets don’t yield many buyers in the marketplace. This leads to longer sales times, which makes it difficult for investors to quickly convert their assets into cash.

For example, if you’re selling your car on the Facebook marketplace, it may be challenging to find legitimate, interested buyers. Also, your car may not sell for nearly the amount you purchased it for, nor as quickly as you wanted it to.

Value Fluctuation

The value of illiquid assets can fluctuate tremendously based on the condition of the market. Specifically, if you need to sell an asset quickly, you’ll probably have to sell at a loss.

Using the previous example, if you don’t find a buyer for your car and need to make a quick sale, you’ll be forced to take a lowball offer.

Transaction Complexity

Furthermore, illiquid assets often involve complex transaction processes and negotiations. For example, if you’re trying to sell historic antiques, you may need to undergo a long and thorough sales process.

Buyers will want to confirm the authenticity of the antique and appraise its value, both of which could take several months to happen.

Illiquid Assets Examples

Here are some common examples of illiquid assets:

• Real estate: Real estate transactions can take a long time, especially if you’re selling investment properties. In the event you need to immediately raise capital, you will likely have to endure a thorough selling process or accept a lowball offer for quick cash.
• Vehicles: Many cars immediately depreciate the moment you purchase them. As a result, it can be challenging to collect a fair market value bid for your vehicle if you plan to sell.
• Antiques and collectibles: Both of these assets can be difficult to appraise and sell. For the most part, it’s tough to find interested buyers for niche items.

Key Differences Between Liquid and Illiquid Assets

In summary, liquid and illiquid assets are typically quite different in nature. Here are the key differences between the two:

Ease of Sale

The main difference between liquid and illiquid assets is ease of sale. Liquid assets, like stocks and bonds, are easy to sell because buyers are almost always interested.

On the other hand, illiquid assets don’t have many interested buyers. This is because potential buyers would have trouble liquidating these assets if they purchase them from you.

Price Volatility

While illiquid assets tend to hold their value over time, they are prone to market volatility. This means that you may not receive a fair market price during times of market stress or during urgent sales.

For example, if you really need to sell your house, you’ll be forced to accept a lowball offer if the market lacks interested buyers. Liquid assets are always in demand. In addition, you won’t experience much slippage when liquidating them.

Value Retention

Liquid assets can retain their value well during a sale. Since these assets are in demand, there are always available buyers.

This means you can maintain stable spreads since there is high competition in the market. Generally speaking, buyers have to submit their best bids to purchase.

Illiquid assets, on the other hand, don’t retain value quite as well, as legitimate buyers are typically more scarce. Fluctuating spreads can cause slippage, which means you may not know how much you could sell your asset for.

Market Availability

Popular liquid assets like precious metals, stocks, and mutual funds are always available to buy, sell, and trade. This creates liquidity in their respective markets, which is ideal for buyers who want stable prices.

Illiquid assets aren’t always available. For example, rare antiques won’t always be available for purchase. When they are, it can be challenging to find suitable buyers and convert them into cash.

Potential Returns

Liquid assets can quickly convert into cash, despite adverse market conditions (like market regulations), and with an immediate time horizon. Illiquid assets are difficult to convert into cash, which gets worse if the market suffers.

However, illiquid assets are still valuable and can promise potential high returns during ideal market conditions.

Diversification

Liquid and illiquid assets can both add diversification to your portfolio. Many financial advisors will promote the common investment strategy to buy both liquid and illiquid assets to minimize losses, maximize gains, and grow their net worth during any market condition.

Digitize Assets With AlphaPoint

Overall, liquidity affects every aspect of a financial market, both domestic and international. When assets can immediately be converted into cash, this increases buyer confidence and results in stable worldwide markets.

When markets are illiquid, buyers are hesitant to make transactions. This creates stagnation, which is detrimental to any economy. If you’re considering starting a crypto exchange, it’s important to ensure that your digital asset infrastructure is liquid at all times.

This is where AlphaPoint can provide excellent value. We offer access to stable liquidity pools to keep your exchange thriving. Request a demo today to see for yourself how we can help with asset digitization.