Liquidity Risk - SynoFin Risikomanagement Service AG

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Liquidity Risk

Risk of liquidity is closely connected to market liquidity. In times of liquidity shortage in a certain market assets can only be sold at markdown prices. This disagio can cause lower than planned monetary influx, thus impairing or endangering liquidity. That is why the risk of liquidity is such an important factor in the risk assessment of assets.

The measurement of the liquidity risk for an asset is based on the price-to-quantity-ratio visible in the market (e.g. shares, bonds, currency positions etc). The price-to-quantity-ratio depicts the correlation of supply / demand and the resulting price of an asset differentiating between bid and asked (”bid price” being the value at which an asset is been sought to buy, ”asked price“ correspondingly being the rate at which an asset is offered in the market).

Growing demand for an asset reduces the difference between bid and asked price. This  gap between bid and asked is an assets’ indicator for its market liquidity (Bid-Ask-Spread): the larger the Bid-Ask-Spread the lower the market liquidity.

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