What is a premium for liquidity?
Liquidity premium is a term used to indicate a difference in investment on the basis of liquidity investment. Liquidity means the level of lightness with which the investment can be transformed into cash. The more investment, the less it is, the less risky it is for investors.
The liquid investment brings less risk, because the investor's money is not tied in the investment for a long time. The investor can be sold if a better investment comes or if the original investment does not take place as expected. Since the sale is easy, there is less commitment to investment and the investor has less risk that things are getting worse and stuck in a bad investment.
As a result of the increased liquidity value, liquidity bonuses are related to the added value of liquid investment. For example, publicly held stocks are usually more liquid than privately held companies and more liquid than real estate assets. This is the case because and a publicly held stock can usually be traded at any time on the stock market orThe stock exchange and investors do not have to organize shares for a period of time.
In order for an investor to invest in a less liquid asset, such as a property or a private company, investments must have different functions or attributes that balance its lack of liquidity. In other words, it must pay a higher payback rate, be less risky than stocks or both. When the investor compares his investment possibilities, he considers all these factors and compares it to determine what the best investment is.
Liquity premium explains the difference in interest rates between short and long -term bonds. Short -term binding is a liquid. The investor is tied for a limited period of time and then can turn its assets into cash, while with a longer -term bond must hold the hold for a long time, and therefore the asset is less liquid; Thus, a shorter term binding has a bonus of liquidity.
in dLong -term bonds usually have a higher interest rate than shorter terms. The investor takes a greater risk, because if interest rates increase over the period of time, he will not be able to trade with his existing bond for a bond that pays a higher interest rate. On the other hand, he could sell his shorter term, more liquid bonds to trade in better paid investment; Therefore, liquidity premium exists because a shorter term gives it more flexibility.