By Sunil K. Parameswaran
Liquidity is a important aspect when thinking of investment in a safety. In a liquid marketplace there will be a lot of purchasers and sellers. If the marketplace is characterised by a numerous purchasers, their purchasing stress is probably to make rates zoom up. On the contrary, if the marketplace is characterised by also numerous sellers, rates are probably to be depressed. It have to be remembered that time is also income. The longer one particular has to wait to liquidate an investment, the higher is the interest earnings that is foregone.
Liquidity in investments
Stock markets are pretty liquid compared to bond markets. Blue chip stocks, in unique, are very liquid. The psychology of stock traders is to acquire on expectation of a capital acquire, and then book income when they really feel that the marketplace has plateaued. Subsequently if the rates decline sharply, such investors will re-enter the marketplace in the type of lengthy positions. Bond traders are, nonetheless, wired differently. When an problem is new, there will be active purchasing and promoting activities, and consequently, liquidity is unlikely to be an problem. However, as soon as the bond becomes seasoned, most holders will merely hold the safety to maturity, though collecting coupon payments along the way.
For a provided maturity, the most not too long ago issued bond is mentioned to be on-the-run. A safety with the similar term to maturity, but which has been issued earlier, is mentioned to be off-the-run. Due to the psychology of bond traders, on-the-run securities are more liquid than off-the-run securities. Consequently, though each are structurally identical, the former are characterised by greater rates, which indicates decrease yields.
Bonds are comparatively illiquid
A second cause why bonds are comparatively illiquid compared to stocks, is since there are also numerous of them in the marketplace, which differ with respect to the coupon, month of maturity, and the year of maturity. Consequently, each and every safety sees restricted trading. Municipalities are large issuers of bonds in nations such as the US. At any point, a purchaser has access to just about two million varieties of concerns.
Stocks are ordinarily traded on an exchange. In India, with the entry of the National Stock Exchange, transparency and liquidity have improved tremendously. The most sought-just after stocks are characterised by higher liquidity, and investors can acquire and sell simply. However, really handful of bonds are traded on exchanges. Most of them trade more than-the-counter (OTC), in a marketplace produced by dealers and brokers. While stock marketplace information is consistently disseminated and is simply obtainable to prospective investors, information on bond rates and yields is really hard to get.
Compared to corporate bonds, treasury bonds or bonds issued by the government are more liquid. This is correct for two causes. The quantity of treasury concerns obtainable at a point in time is decrease than the quantity of corporate bonds obtainable. Also, the size of a treasury problem is considerably larger than that of a standard corporate bond problem. Consequently, for each and every maturity date, the availability of treasury bonds is higher.
The writer is CEO, Tarheel Consultancy Services