Volatility and liquidity – what does it all really mean?

Volatility and liquidity are quite different, but they can affect each other. 

Volatility and liquidity defined

Volatility is technically the spread away from a standard position or median. It implies variability and unpredictability, and in the context of investment markets, it represents sudden and significant movements up or down in the value of shares. Generally, when the sharemarket rises and falls more than one per cent in a day over a sustained period of time, it is called a ‘volatile’ market.  

Liquidity is the ease at which an asset can be converted to cash at its fair value or market price.

There’s a spectrum of liquidity. At some point, most assets can be considered liquid but the distinction is how fast can you turn the asset into cash without compromising the real value. Some assets can be turned into cash immediately (e.g. cash, cheques, bank bills) at their full value, while for other assets like property it is harder to sell quickly without having to take a big discount.

How do they interrelate?

When you’re looking to liquidate an asset, volatility puts an extra strain on this process and jeopardises the market value of an asset. What happens is buyers and sellers get nervous and assets don’t necessarily trade at their fair value. In these circumstances, investors tend to panic and feel the urge to sell up which causes a further spiral of volatility and loss in asset value through rash liquidation. 

That’s why we always remind members to remain calm and invested when markets are volatile.

Getting caught in the spiral will mean you sell at the worst time when asset values are low and not at their fair value. 

What’s all the talk about liquidity in super funds?

Super funds invest members’ money in various asset classes with a view to diversify risk and deliver the best possible outcomes for members over the long term.

Some assets are held with a short-term focus (like cash, bonds) and others are held with a long-term focus (like property, infrastructure), each with expected risk and return objectives based on the fund’s membership profile. The market volatility experienced with COVID-19 in recent months created unease among many investors which resulted in escalated member switching behaviours experienced by many super funds. As funds need cash to manage this process, it can put pressure on super funds to pull out of various investment positions, especially longer-term assets that were meant to be held full-term (often referred to as illiquid assets).

Some funds are better placed to do so than others, based on their investment positions.  

Maritime Super’s switching experience during the COVID-19 downturn was considerably less than during the GFC. We believe our education and support during this time would have provided members with the comfort and guidance to get through this period. Our financial position is strong, our risk management strategies and lessons from the GFC led us to take different positions with illiquid assets, which has proved beneficial in this downturn.

We’re here to help

Remember while you may not be familiar with all aspects of investments, investing in super is what we do every day, so if you have a question please call us and speak to one of our financial planners who are available to you.

Disclaimer:
The information on this page has been issued by Maritime Financial Services Pty Limited (MFS). It contains general information that doesn’t take into account your individual objectives, financial situation or needs. It’s important to consider how appropriate this general information is in relation to your situation before making an investment decision. We recommend that you seek financial advice before making any decisions regarding your super or investments. The information on this page is current at the time of publishing.

 
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