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Definition of 'Illiquid'

Illiquidity is a term used to describe an asset that cannot be easily converted into cash. This can be due to a number of factors, such as the asset being illiquid, the market for the asset being illiquid, or both.

There are a number of different types of assets that can be illiquid. Some common examples include real estate, private equity, and venture capital. These assets are often illiquid because they are not traded on a public market, which makes it difficult to find a buyer who is willing to pay a fair price.

In addition to the type of asset, the market for the asset can also affect its liquidity. For example, a stock that is traded on a major exchange is generally more liquid than a stock that is only traded over-the-counter. This is because there are more buyers and sellers in the market for the former, which makes it easier to find someone who is willing to buy the stock at a fair price.

The level of illiquidity can also vary depending on the time horizon. For example, an asset may be illiquid in the short term but become more liquid in the long term. This is because it may take some time for a buyer to be found, but once a buyer is found, the asset can be sold for a fair price.

Illiquidity can have a number of negative consequences for investors. First, it can make it difficult to sell an asset when needed. This can be a problem if an investor needs to raise cash quickly, such as to pay for an unexpected expense. Second, illiquidity can reduce the return on an investment. This is because illiquid assets often trade at a discount to their fair value. Third, illiquidity can increase the risk of an investment. This is because illiquid assets are more difficult to sell, which makes them more vulnerable to price fluctuations.

There are a number of things that investors can do to manage the risk of illiquidity. First, they can diversify their portfolios by investing in a variety of assets, including both liquid and illiquid assets. Second, they can choose investments that have a history of being relatively liquid. Third, they can be prepared to hold illiquid assets for a long period of time.

Illiquidity is a complex issue that can have a significant impact on investors. By understanding the different types of illiquidity and the factors that affect it, investors can make informed decisions about how to manage the risk of illiquidity in their portfolios.

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