Need for Liquid Assets

From Financial Literacy Wiki

Most of us need to hold liquid assets for our daily needs. Liquid assets are assets that can be readily converted into cash with minimal loss in value. Examples of liquid assets are cash, current account balances, savings deposits and time deposits of very short maturity.

As liquid assets possess many characteristics of cash, their returns are generally low. This means that the opportunity cost of holding large amounts of liquid assets is very high. By holding liquid assets, you are forgoing the opportunity to earn higher returns from other high yield instruments such as bonds and stocks. Therefore, the key objective of liquid assets management is to minimize the amount of liquid assets you hold without affecting your ability to pay for essential goods and services.

Purpose of Keeping Liquid Assets

Although most individuals try to minimise their holdings of liquid assets, they still need to keep some liquid assets for the following:

• Make payments for planned expenditure.
• Meet unexpected expenditure in an emergency
• Accumulate savings
• Repay loans.
• Making purchase of other investment instruments.

You need liquid assets to pay for your daily needs. To avoid financial hardships, there is a need to maintain an emergency fund to pay for daily expenses and medical bills in case of unemployment or ill health (Usually recommended to be three to six months of your current pay). Since it is prudent to diversify your investment risks, you need to spread your investment across many assets, one of which should be liquid assets. And if you are still servicing a loan, you will need to make periodic payments to the financial institution with liquid assets.