Saturday Brain Storming Thought (133) 02/10/2021
COMPILED BY ER. AVINASH KULKARNI
LIQUID ASSET
A liquid asset is an asset that can easily be converted into cash in a short amount of time
Liquid assets can be easily, securely, and quickly exchanged for a legal tender
Liquid assets include things like cash, money market instruments, and marketable securities
Examples of Liquid Assets
1) cash or currency
2) bank accounts
3) accounts receivable
4) mutual funds
5) money market accounts
6) stocks – owned shares
7) treasury bills, notes, and bonds
8) certificates of deposit
9) prepaid expenses
10) retirement investment accounts
Non Liquid assets
Non-liquid assets are a category of assets that aren’t easily converted into cash
Examples of non-liquid assets
1) land and real estate investments
2) equipment
3) art
4) vehicles
5) jewelry and Precious metals
6) collectibles -.an item that some people want to collect as a hobby
Liquidity Ratio
Liquidity ratios measure a company’s ability to pay debt obligations and its margin of safety through the calculation of metrics including current ratio, quick ratio and operating cash flow ratio
Key takeaways of liquid asset
1) asset that can be easily converted into cash within a short amount of time
2) liquid assets generally tend to have liquid markets with high levels of demand and security
3) businesses record liquid assets in the portion of the current assets of their balance sheet
4) business assets are usually broken out through the quick and current ratio methods to analyze liquidity types and solvency
Maximum liquid wealth policy
It restricts the amount of liquidity
Liquid wealth is an asset individual is permitted to maintain while giving them unrestricted access to non-liquid assets
Institutional investor
Institutions have an investment horizon extremely vast allowing them to invest in highly illiquid assets since they are unlikely to be forced to sell them before the term
Liquidity Reserve
It is the need for the cost of maintaining a dedicated stock of liquid assets portfolio
Asset Accumulation
Gather enough liquid assets to then sustain all future living/liability expenses
Liquidity Gap
It is the excess value of the firm’s liquid assets over its volatile liabilities
A company with a negative liquidity gap should focus on their cash balances and possible unexpected changes in their values
Banks Monetary policy for liquid assets
Banks only maintain a small portion of their assets as cash available for immediate withdrawal, the rest is invested in illiquid assets like mortgages and loans
Troubled Asset Relief Program (TARP)
The primary purpose of TARP is to stabilize the financial sector by purchasing illiquid assets from banks and other financial institutions
Liquidity calculation
Liquid assets / short term liabilities
Conversion of liquid assets to risky assets
An increase in leverage and credit spread on all but the safest and most liquid assets may incur a sudden dry up in risky asset markets, which may lead to real effects on the economy
Flight to liquidity
It refers to an abrupt shift in large capital flows towards more liquid assets
Statutory liquidity ratio
It is the number of liquid assets such as precious metals (gold) or other approved securities, that a financial institution must maintain as reserves other than cash
Saving account as a liquid asset
These accounts let customers set aside a portion of their liquid assets while earning a monetary return
Asset-backed security
The pool of assets is typically a group of small and illiquid assets which are unable to be sold individually
Asset liquidity in the banking
Holding assets in a highly liquid form tends to reduce the income from that asset (ie cash has no interest)
So banks will try to reduce liquid assets as far as possible
Hot money
This is especially so in countries with relatively scarce internationally liquid assets
Objectives of liquid asset management
1) manage your cash and understand why you need liquid assets
2) automate your savings
3) choose from among the different types of financial institutions that provide cash management services
4) compare the various cash management alternatives
5) compare rates on the different liquid investment alternatives
6) establish and use a checking account
7) transfer funds electronically and understand how electronic funds transfer (EFTs) work
Managing Liquid Assets
1) cash management is deciding how much to keep in liquid assets and where to keep it
2) with less regulation and more competition, banks and other financial institutions offer an array of account types and investments
3) Goal : pay expenses (including unexpected expenses) without dipping into long-term investments
4) cash management means not only making choices from among alternatives but maintaining and managing the result of those choices
Principle 1: the risk-return trade-off
5) liquid assets have little risk and therefore a low expected return
6) low risk is important in cash management
7) another type of risk associated with liquid assets: the more cash you have, the more you are tempted to spend
Automating Savings: Pay yourself first
1) use cash management alternatives to have savings automatically deducted from your paycheck
2) automating your savings means you are less likely to spend that money
3) the earlier you start to save, the easier it is to achieve your goals
Time value of money
Liquid Asset formula
Current Assets / Current liabilities
Benefits of liquid asset
1) keep cash handy
2) investing benefits
3) less risky
4) improves the financial profile
Disadvantages of liquid assets
1) low-interest rates
2) inflation
3) taxes
4) other considerations
Assets and liquid assets
Liquid assets are money gained from sources such as investments or inheritances
Assets are money gained from your job
Liquid Net Worth
It is what you would have left of you were selling your assets and paying all your debts ie subtract your liabilities from your assets
Liquid net worth counts only your liquid assets
Liquidity Trap
A liquidity trap is caused when people hoard cash because they expect an adverse event such as deflation, insufficient aggregate demand, or war
The characteristics of a liquidity trap are interest rates that are close to zero and changes in the money supply that fail to translate into changes in the price level
High inflation and low inflation can be bad for economy
Compiled by:-
Er. Avinash Kulkarni
Chartered Engineer
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