What is Liquidity and Why it matters? 

1. Market Liquidity: The ability to buy or sell assets quickly in the market.
2. Accounting Liquidity: The ability of an individual or company to meet short-term financial obligations using liquid assets.

1. Cash Reserves: Liquidity acts as a provision for cash reserves, ensuring financial security during emergencies.
2. Risk and Return Balance: It helps balance risk and returns by providing quick access to funds when needed.
3. Selling Process: Liquidity simplifies the selling process, allowing assets to be converted into cash quickly.
4. Transaction Speed: It accelerates the entire process of financial transactions, making it easier to meet obligations.

1. Cash
   • The most liquid asset, cash is readily available to settle liabilities or make purchases.
   • Cash in savings or checking accounts is also considered liquid as it can be withdrawn at any time.
2. Cash Equivalents
   • Highly liquid investments with a maturity period of up to 3 months.
   • Examples include treasury bills, commercial papers, and money market instruments.
3. Accrued Income
   • Income that has been earned but not yet received.
   • For example, unpaid salaries or interest income that is expected to arrive soon.
4. Stocks
   • Stocks are considered liquid because they can be sold quickly on stock exchanges.
   • The high number of buyers and sellers in the stock market ensures quick conversion into cash.
5. Government Bonds
   • Bonds issued by the government are fixed-income assets that can be traded in the open market.
   • Investors can sell bonds before maturity to access cash.
6. Promissory Notes
   • A written promise to pay a specified sum of money on a particular date.
   • These notes can be sold or transferred to another party for quick cash.
7. Accounts Receivable
   • Unpaid invoices or bills that a company expects to receive soon.
   • Once paid, these receivables become cash, making them a liquid asset.
8. Marketable Securities
   • Short-term financial instruments like bonds, stocks, and exchange-traded funds (ETFs).
   • These securities can be easily sold in the market for cash.
9. Certificates of Deposit (CDs)
   • A savings instrument that provides a lump sum amount (principal + interest) at maturity.
   • While CDs are liquid, withdrawing funds before maturity may incur penalties.

1. Market Liquidity
   • Refers to the ability to buy or sell assets quickly in the market without affecting their price.
   • For example, stocks traded on major exchanges like NSE or BSE are highly liquid.
2. Accounting Liquidity
   • Measures the ability of an individual or company to meet short-term financial obligations using liquid assets.
   • It is calculated using two key ratios:
     • Current Ratio:

• Cash Ratio:

• For Individuals: Liquidity ensures you have access to cash for emergencies, daily expenses, or investment opportunities.
• For Businesses: Liquidity helps companies meet short-term obligations, pay suppliers, and manage cash flow effectively.
• For Markets: Liquidity ensures the smooth functioning of financial markets by enabling the quick buying and selling of assets.

• Distress Selling: Individuals or companies may be forced to sell assets at lower prices to meet urgent cash needs.
• Financial Instability: Lack of liquidity can lead to missed payments, defaults, or even bankruptcy.
• Market Impact: Illiquid markets can experience high price volatility and reduced investor confidence.

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