Liquidity in the context of financial markets is understood as a statistical measure that describes how quickly an asset can be traded. High market liquidity will allow transactions to be completed more quickly because buyers can quickly find people who want to sell and sellers can quickly find people who want to buy. Conversely, a market that has low liquidity will make buying and selling transactions slow to complete, because it is difficult to find people who want to make buying and selling transactions at the same time.
The term illiquid market refers to market conditions that are illiquid or have low liquidity. There is no explanation for how low the liquidity of a market is, so that it is called an illiquid market itself. However, most of what is referred to as an illiquid market are markets that are lacking in demand, either because the assets being traded are unattractive or because they are too expensive so very few people can afford to trade. For example, for illiquid conditions because assets are not attractive is the fried stock market and for illiquid conditions because asset prices are too expensive is the property market.
Illiquid Market characteristic
Liquidity isn’t something that can be seen physically, but that doesn’t mean we won’t know which markets are illiquid and which are liquid markets. We can pay attention to the following characteristics to distinguish between an illiquid market and a liquid market:
1. Difficult to make buying and selling transactions
Illiquid markets have a small number of participants (market participants). Therefore, when we try to buy an asset, it is difficult to find someone who sells the asset at the same time or close to each other. And even if there is, the value of the assets being sold is not sufficient for the quantity demanded (the volume desired by the buyer). So there are only some buyers whose transactions are executed. The opposite also happens when we want to sell an asset, we will also have difficulty finding a buyer at a time close to the offer we made.
2. Prices do not move
Apart from that, in market conditions that have no liquidity at all or there are no transactions taking place in the market, asset prices usually will not move, either up or down. If we have a position in the market like this, we also can’t do anything because there are no market players who want to buy our assets. This condition is usually referred to as a stuck position and is often found in stock trading, especially in fried stocks.
3. Many price gaps
An illiquid market can also be characterized by many gaps on the price movement graph. This is because the number of market participants is very small, so the supply and demand prices have a significant gap. This means that when there are few people interacting in the market, existing buyers will make various purchasing price requests and in liquid market conditions the prices desired by buyers can be sequential, for example some buyers want the purchase price at level 1.2345, then several other buyers want to buy at the price of 1.2344 and so on. The same thing happens to sellers, people who want to sell their assets offer these assets at a significant price range. Some offer at much cheaper prices and others offer at much more expensive prices. So that the price between the two does not have an executed transaction and displays a visual in the form of a gap on the price movement graph.
4. Easy to fluctuate
The very small number of buyers and sellers also makes the illiquid market fluctuate easily. This is because prices do not move because of the sentiments of many people, but only a small number of market participants. Therefore, buying and selling transactions from some people can push prices up and down, thus creating fluctuating market conditions.
5. Easy to experience increased volatility
An illiquid market has a small number of participants and because of this the amount of trading volume is also low. In fact, illiquid markets tend to operate with low volatility. However, when there is a spike in market volume, even just a little, volatility can increase significantly.
Volatility itself is a measure of how far prices can move. The higher the volatility, the wider the range of market movements. And the lower the volatility, the narrower the market movement range becomes. This is because when market volatility decreases, it means that the total trading volume becomes quite large, making it difficult to encourage prices to move unless the buying or selling volume is also large. Meanwhile, when volatility is high, the market generally has low liquidity, so buying or selling transactions with low values ​​can encourage prices to move.
Illiquid or illiquid markets are markets that are not suitable for short-term trading. Because markets like this tend to have high risks considering that prices can move significantly. Additionally, it is difficult to sell and buy in an illiquid market. Even when we are profitable, we may not be able to get out of the market and enjoy the profits we have made because no one wants to buy the assets we own. So, it is important to consider various things before deciding to carry out transactions in illiquid markets.
Causes of Illiquid Market
In general, there are major factors that can cause an illiquid market. First, the lack of interest and participation of market players. When many market participants are not interested in buying or selling their assets in the market, supply and demand are limited. As a result, the number of transactions and trading activity is low. The low interest and participation of market players in participating in trading is partly due to political uncertainty, poor economic conditions, global economic events and market turmoil which encourage investors to reduce the number of transactions.
Second, the small market size. Markets with small capitalization or assets that are rarely traded can result in low liquidity, due to a lack of interest and limited trading activity.
Third, there are restrictions by regulation. Policies that limit or complicate transactions in terms of buying or selling assets can reduce overall market liquidity.
