There are a number of metrics used to evaluate assets. One prominent metric is liquidity. Liquidity is the measurement of how easily an asset can be converted to cash. Money itself is considered the most liquid of assets, while assets that cannot be sold are considered the most illiquid. Stocks are a relatively liquid investment.
There is no absolute system of measuring an asset's liquidity. An asset can be considered liquid if it can be converted to cash within 20 days. Examples of liquid assets would be Certificates of Deposits, checking accounts, United States savings bonds and money market accounts. Generally, the faster and cheaper an asset can be converted into cash, the more liquid the asset is considered.
As an asset class, stocks are relatively liquid. Stock exchanges allow stocks to be easily bought and sold at transparent prices. However, in order for a stock to be considered liquid, a person must be able to sell it to another party. Stocks that are frequently traded are considerably easier to sell than stocks that fewer people wish to purchase. This makes some stocks far more liquid than others.
The two chief factors affecting a stock's liquidity are the number of its shares available for trading, and the average number of shares traded each day. A stock that has fewer shares available for trading or is rarely traded would be considered less liquid than a stock with many shares available being traded frequently.
According to Business First, large-cap stocks are the most liquid because of their high volume, large number and the fact that they are consistently in demand from investors. By contrast, small-cap companies issue relatively few shares and do not have the same demand. Michael Edleson, vice president at National Association of Securities Dealers, says that if, on a regular basis, fewer than 10,000 shares of a particular stock are traded, the stock is considered illiquid.
According to a study, "Stock Market Declines and Liquidity," published by Duke University, the liquidity of the stock market changes constantly in accordance with the actions of the investors. The study found that during periods when the stock market was in decline, stocks became generally less liquid. This is because the decline caused many investors to move their money to other asset classes, leaving fewer parties willing to purchase stocks.