Are stocks and bonds actually liquid?

Question

Investopedia gives the standard answer of "yes":

https://www.investopedia.com/ask/answers/032715/what-items-are-considered-liquid-assets.asp

An asset that can readily be converted into cash is similar to cash itself because the asset can be sold with little impact on its value.

Stocks and marketable securities, ... are considered liquid assets because these assets can be converted to cash in a relatively short period of time in the event of a financial emergency

But it also says "maybe not"?

https://www.investopedia.com/ask/answers/052515/what-difference-between-banks-liquidity-and-its-liquid-assets.asp

Should stocks be considered liquid assets? Not necessarily. They can be bought and sold instantly. But if they are bought at a high price and a need for cash arises when they have sunk to a low price, the stocks have been converted into cash only at a high cost to their owner.

So, are stocks (and bonds, since interest rates might have increased since you purchased them) provisionally liquid?

Answer 1

The second quote sounds like complete nonsense to me. There is no "high cost to their owner" from converting the stocks into cash. The high cost comes from the stock losing value. That an asset can lose value does not affect whether or not it's a liquid asset.

As the first quotation explains, an asset is liquid if it can readily be converted to cash with little impact on its value. Even if you sell a stock at a loss, the selling process itself can be readily done and has little impact on the value (which is, of course lower) of the asset.

I think they're trying to make the point that if you want to treat a volatile asset as liquid, you run the risk that when you need cash, you'll have to sell the asset at a time you'd rather not sell it. But that's true of any liquid asset and even of illiquid assets.

But their thinking is fundamentally and seriously wrong. A stock that has gone down is not therefore more likely to go up. And even if it was, that you held the stock and it lost value doesn't give you any special ability to participate in its future increase.

If you hold a stock and its value went down, you lost that value, period. That is a loss you will always have. If you continue to hold the stock and it goes up in value, you will get a gain. But that's the same gain that anyone who bought the stock after it went down would make. There is no special loss of opportunity from being forced to sell a stock at some particular time. You simply lose the ability to hold that stock, just as you would having to sell a stock at any time.

So the bit about "a need for cash arises when they have sunk to a low price" is meaningless. Any time the need for cash arises, you will lose both the risk of taking losses on the stock and the benefit of further gains on the stock. After the stock has sunk to a low price, it might well continue to sink to an even lower price.

So, again, that second quote is nonsense.

Answer 2

From your second Investopedia link:

For a consumer, a lack of liquidity can mean borrowing at a high rate of interest, selling a possession at a probable loss, or failing to pay the bills on time.

Should stocks be considered liquid assets? Not necessarily. They can be bought and sold instantly. But if they are bought at a high price and a need for cash arises when they have sunk to a low price, the stocks have been converted into cash only at a high cost to their owner.

That fails to meet the standard of liquidity: The assets must be either cash or property that can be turned into cash without a substantial loss in value.

The above definition is nonsense.

Liquidity, aka marketability, refers to the ability to sell an asset without the transaction having a significant effect on its price. Stocks and bonds with low liquidity may be difficult to sell, resulting in a larger loss because there isn't enough counter party volume available to execute at current price.

Answer 3

Let me address why stocks can have wildly differing levels of liquidity. It all comes down to one thing: for you to sell your shares, someone has to be willing to buy them.

For a typical investor? Someone who's got less than $1k tied up in a given stock? Then, yeah, those stocks are absolutely liquid. Simply put, there are so many people buying and selling shares in the company that if you suddenly put up your shares... it's not going to make a dent in the stock price. If you've got a few thousand shares worth of Disney, you're going to have pretty close to 100% liquidity on those stocks.

But let's say you've got a lot of stock in a company. So much so that your share count greatly exceeds a typical days' activity. What happens when you try to sell that stock? Well, the first handful of shares you've got sell close to the current market price, as other investors are trying to buy at that price. But then the stock starts dropping - lower and lower - because you can't sell your shares unless the price dips low enough that enough people are willing to buy your shares. The more shares you're trying to sell, the more this pushes downward on the stock price. (That's actually the reason you see massive sudden dips in a stock: a lot of shares are trying to be sold at once, and the price has to dip before the sellers can find someone willing to buy their shares.)

In other words, if you've got 14 shares of Facebook stock worth $2,800 and needed to immediately sell it - you could liquidate it without much fuss. Mark Zuckerberg, however, would have a harder time liquidating his 140 million shares and get $28 billion immediately.

Answer 4

I think that its worth mentioning that for the most part, stocks and bonds (issued by companies) are liquid in the that they are straight forward to buy and sell (its not technically difficult).

However, as others have mentioned, its not always easy to sell the specific stocks and bonds you have at a time of your choosing, for a price you'll accept.

There are many reasons for this, but the main one is that stocks and bonds are generally not interchangeable with each other (specifically, stocks and bonds of the same line are interchangeable with one another, but not across all stocks, or all bonds). The simplest example is that a stock of one company is not the same as the stock of another company. So, if you want someone who wants to buy stocks, but not your stocks, then that person is not of much use.

So, in practice only a subset of stocks are liquid, and even less so for bonds, because there is so many different lines of them.