Market liquidity is a business, economics or investment term that refers to an asset's ability to be easily converted through an act of buying or selling without causing a significant movement in the price and with minimum loss of value. An act of exchange of a less liquid asset with a more liquid asset is called liquidation. Liquidity also refers both to that quality of a business which enables it to meet its payment obligations, in terms of possessing sufficient liquid assets; and to such assets themselves.

Summary

A liquid asset has some or more of the following features. It can be sold rapidly, with minimal loss of value, anytime within market hours. The essential characteristic of a liquid market is that there are ready and willing buyers and sellers at all times. Another elegant definition is: the probability that the next trade is executed at a price equal to the last one. A market may be considered deeply liquid if there are ready and willing buyers and sellers in large quantities. This is related to a market depth, where sometimes orders cannot strongly influence prices.

An illiquid asset is an asset which is not readily salable due to uncertainty about its value or lacking a market in which it is regularly traded. The mortgage related assets which resulted in the subprime mortgage crisis are examples of illiquid assets as their value is not readily determinable despite being secured by real property. Another example is an asset such as large block of stock, the sale of which affects the market value.

The liquidity of a product can be measured as how often it is bought and sold; this is known as volume. Often investments in liquid markets such as the stock exchange or futures markets are considered to be more liquid than investments such as real estate, based on their ability to be converted quickly. Some assets with liquid secondary markets may be more advantageous to own, so buyers are willing to pay a higher price for the asset than for comparable assets without a liquid secondary market. The liquidity discount is the reduced promised yield or expected return for such assets, like the difference between newly issued U.S. Treasury bonds compared to off-the-run treasuries with the same term remaining until maturity. Buyers know that other investors are not willing to buy off-the-run so the newly issued bonds have a lower yield and higher price.

Speculators and market makers are key contributors to the liquidity of a market, or asset. Speculators and market makers are individuals or institutions that seek to profit from anticipated increases or decreases in a particular market price. By doing this, they provide the capital needed to facilitate the liquidity. The risk of illiquidity need not apply only to individual investments: whole portfolios are subject to market risk. Financial institutions and asset managers that oversee portfolios are subject to what is called "structural" and "contingent" liquidity risk. Structural liquidity risk, sometimes called funding liquidity risk, is the risk associated with funding asset portfolios in the normal course of business. Contingent liquidity risk is the risk associated with finding additional funds or replacing maturing liabilities under potential, future stressed market conditions. When a central bank tries to influence the liquidity (supply) of money, this process is known as open market operations.