Illiquidity discount

The reduction in price a seller must accept to find a buyer for something that cannot be readily traded.

Example

A position carried at 150,000 attracting a secondary bid of 112,500, a discount of 25%.

Important

The discount prices your urgency rather than the asset. A buyer may agree completely with the carrying value and still bid well below it, and the discount widens the more visible your need to sell becomes.

Related terms

• Liquidity premium — The additional expected return an investor should require for holding something that cannot readily be sold.
• Secondary market — Where an existing investor sells a position to another investor rather than back to the issuer or the fund.
• Forced selling — Selling because you have to rather than because you chose to - triggered by a lender, a redemption request, or an unrelated need for cash.

Lessons that explain it

• Most alternative assets pay you nothing until the day you sell — Art, wine, watches and domains produce no income at all while you hold them - the return exists only as a price someone else agrees to pay later. A small minority of alternatives, like farmland and royalty rights, are genuinely different because they generate cash along the way. (9 min)
• A round trip through an auction house can cost 40 percent before the item has moved at all — Buyer's premium going in and seller's commission coming out compound into a breakeven hurdle most buyers never calculate - on top of holding costs and, in several jurisdictions, a higher tax rate reserved specifically for collectibles. This lesson is general information, not personal tax or legal advice, and rules vary by jurisdiction. (13 min)
• This belongs in the money you could genuinely lose, sized small, and held for reasons beyond the return — The apparent low correlation with financial markets is partly real and partly an artefact of how these assets are valued - and once round-trip costs and total-loss risk are honestly priced in, this asset class fits only as a small, patient allocation of money whose absence would not change anyone's plans. (10 min)
• Selling early means accepting a discount; a wind-down usually means preferences take what is left — A secondary sale can return cash before a company exits, typically below the latest valuation. When a company winds down, creditors and preferences are paid first, and common holders commonly receive nothing. (11 min)
• A loan's rate is a stack: base rate, expected loss, illiquidity and fees — Private loans are priced by building up from a risk-free rate, adding compensation for defaults, for being unable to sell, and for the intermediary. Values between lending and repayment are mostly estimates. (11 min)
• Leverage runs both ways, the round trip costs six per cent, and selling takes months — A mortgage multiplies the price move by four in either direction. The transaction costs are fifty times a broad fund's. And the exit is measured in months, at a price you negotiate rather than accept. (13 min)

All 578 terms in the Investing glossary