What Are Liquid Assets?

by Cam Merritt

In finance, "liquidity" is a measure of how easily you can raise cash. A liquid asset, then, is anything that you can turn into cash quickly without having to substantially discount the price. Cash itself is considered a liquid asset, as are bank balances, marketable securities and even IOUs from customers.

Cash

An old saying in finance holds that "cash is the most liquid asset." You can convert cash into just about anything of value, and nearly all items of value are expressed in terms of how much cash it takes to acquire them. Cash, in this context, doesn't mean currency, but rather money that's available for spending immediately, be it in the form of $100 bills or a balance in a checking account. Accountants commonly use the term "cash and equivalents," which refers to cash and assets that are so low-risk and liquid that they are all but indistinguishable from cash, such as savings account balances, certificates of deposit or Treasury bills.

Marketability

For a non-cash asset to be liquid, there has to be an active market for it. You could have a garage full of Van Gogh originals, say, but still be unable to pay your electric bill because there are so few people able to buy them -- and the power company doesn't accept art. Stocks, bonds and other securities are highly liquid because exchanges set prices and facilitate sales. A business's inventory is a fairly liquid asset, because customers presumably will pay money for those products. A company's accounts receivable -- the payments owed by its customers -- are also liquid assets, as the customers convert them to cash just by paying their bills.

Price Effects

A key element of liquidity is the ability to sell an asset without the sale affecting the price of that asset. An asset is liquid only if you can get fair value for it, or very close to fair value. The more you have to discount it to get it to sell, the less liquid it truly is. Think about that garage full of rare paintings. Sure, you could raise cash quickly by knocking the price down (by several million dollars) to $1,000 per painting. But you wouldn't get anything close to fair value, so those masterpieces aren't liquid assets. If you had a bar of gold, on the other hand, you could get close to fair value for it, because there's always an active market for precious metals, with current prices that are widely available.

In Financial Statements

You can get a sense of how liquid various assets are by looking at the "assets" section of any major U.S. corporation's balance sheet. Under U.S. accounting standards, assets are always listed in declining order of liquidity. Cash and equivalents always come first, typically followed by such things as short-term investments in securities, then accounts receivable and inventories. After that come more illiquid assets. These include, property, plant and equipment; strategic investments in other companies; and "intangible" assets such as brand value. Curiously, international accounting standards do things just the opposite, so that non-U.S. firms list their least-liquid assets first, then the liquid ones, and cash and equivalents last.

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