Marketability is a measure of an asset’s ability to be bought and sold. The ability to convert an asset into cash quickly is also known as “marketability.” Poor marketability reduces the value of an asset. Marketability is similar to liquidity, except that liquidity implies that the value of the asset is preserved, while marketability indicates that the security can be easily bought and sold. Website design By BotEap.comLiquidity
Liquidity is the degree to which an asset or security can be bought or sold in the market without affecting the price of the asset. Liquidity is characterized by a high level of trading activity. Assets that can be easily bought or sold are liquid assets. Website design By BotEap.comIlliquidity (Not liquid)
An illiquid asset cannot be quickly converted into cash. Such investments include non-traded limited partnerships, real estate and notes. Website design By BotEap.comThe challenge of illiquid assets
The combination of credit problems, lack of credit information, poor business conditions, and lack of transparency creates significant valuation challenges for non-marketable assets. The inability to collect information has become a major handicap. The absence of liquidity reduces the value of the asset by the illiquidity discount. All other things being equal, the less liquid the asset, the less value it has. Measuring this discount and applying it to illiquid asset valuations has always been a challenge. Website design By BotEap.comThe benefits of illiquid assets
Now that we’ve learned about the drawbacks and challenges of investing in illiquid assets, let’s explore the positives, the benefits. The benefits are significant and often outweigh the challenges. Website design By BotEap.com• Assets that lack liquidity and marketability offer higher returns
• Assets that lack liquidity and tradability offer less volatility and more stability
• Assets that lack liquidity and marketability are a better emotional fit for some investors
• Assets that lack liquidity and marketability fit the areas of knowledge and personal experience of some investors: IOU experts and real estate experts are examples Website design By BotEap.comValuation of illiquid investments
The experienced judgment of the appraisal expert is the key factor. Each valuation method has its flaws. Estimating an appropriate discount for illiquid assets requires judgment. Over the years, court cases have recognized the value of an appraiser’s judgment on mechanical applications of rules of thumb. Website design By BotEap.comSome of the factors considered are: financial statements and credit ratings of the borrower, payment history, amount and nature of the collateral, terms and conditions of payment contained in the documents, term of the loan, economic perspective, amount of control of the asset, restrictions on transferability and costs associated with collection if a default occurs. Website design By BotEap.comIt is important to consider all of these factors when selecting the appropriate discount for lack of marketability. When using these factors as a guide, the appraiser’s judgment remains key. Website design By BotEap.comThe valuation of private and illiquid investments is a “trial process.” It requires a solid methodology that:
• established and defensible theoretical framework
• uses methods accepted by investors who trade similar assets
• uses market information that is reliable and appropriate Website design By BotEap.comconclusion
Illiquid assets can be excellent investments for the right investor, who has bought at the right price and understands himself and the asset being purchased.