FIIG Education Articles

Liquidity is one factor that investors can overlook when constructing a portfolio. Yet at any point where the investor needs to access their funds it becomes the single most important feature of a portfolio. 

If a market is liquid it will have many participants at any given time competing to buy or sell the assets, resulting in a narrow spread. If it is not liquid it will be very difficult to buy or sell the asset without adjusting the capital price paid or received for the asset significantly, creating a wide bid-offer spread. Of course the other factor that defines liquidity is the volume which can be transacted at a particular price or bid-offer spread. 

Generally speaking, most of Australia's benchmark government and semi-government bond issues are extremely liquid issues. Average traded daily volume typically exceeds $3bn for Commonwealth Government bonds alone and bid-offer spreads in the wholesale market for a parcel of $10m or more can be as low as 1 basis point (bps) or 0.01% percentage point in terms of yield. Investment grade corporate bonds are more liquid than non-investment grade bonds as they have greater investor acceptance. Liquidity varies day to day and can change very quickly.

Bonds can have many variables reducing the number of suitable buyers. Many investors have an inflexible charter or investment grade mandate requiring them to consider only investment grade bonds or certain types of securities. Companies with sub-investment grade ratings operate in markets with fewer buyers, reducing liquidity. Another variable is whether the security is secured or unsecured which may also play a part in its ability to trade in the secondary market, otherwise impacting its liquidity. The issuer and its underlying credit quality play an important role in providing liquidity to the asset. The size of the issue also plays a role.