Introduction
Many
newish share
traders potentially fall for a number of traps in the early days of
their trading. One of these is to do with stock liquidity.
It doesn't matter whether you are buying shares for shorter term
profits, or for longer-term investments, you will want to make sure
you can sell the shares at a moments notice. To do this it will be
important to have buyers available to take your stock when you want
to sell it.
It
is important to
realise that with many stocks, there are times when there is a
shortage of buyers. So you might have to wait for hours to find a
willing buyer, or even days, and then sell at a price which is well
below your desired sell-price.
Liquidity - how to
measure it?
There
are three common ways to measure the liquidity of the shares in a
company:
- Volume
- of shares traded in a day or week.
- Trades (number
of buy/sell transactions) - in a day or week.
- Sales value
(the dollar value of shares that are transacted) - in a day or week.
Safe liquidity level to
invest/trade?
For
the use of investors or traders there are some guidelines regarding
each of the three measures of liquidity listed above. In some cases,
the safe value is dependent on the intended position size
of your parcel of shares.
More
details about these so-called safe levels are included in the eBook
Articles.
List of liquid
tradeable stocks?
Once
we know and understand this issue of liquidity, it is easier to compile
a list of liquid and tradeable stocks. This list could then
form the basis of our watch list. Instead of scanning all stocks in the
market, or all stocks in one or two indexes, we could scan our list of
liquid tradeable stocks.
A
scan of all 2000+ stocks in the Australian equity market in Septermber
2011 produced a list of liquid tradeable stocks no longer than 400 -
depending on how strict our liquidity criteria and intended position
size.
Robert's Liquid List
As
a part of his own trading routine, Robert has his own list of liquid
stocks, and refreshes it monthly. It is available for Premium Toolbox
Members to download, with detailed explanatory and background
information. See details here.
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Download
Robert's Liquid List
Premium Toolbox members can download
Robert's own Liquid
List - see the details here. |
Problem scenario
Let's say we want to buy 10,000 shares in a (fictitious) company
called XYZ. On the share market, we have noticed that every week for
the last few weeks there are been about 6 buy/sell transactions each
day (ie. 6 "trades"), and the share price is roughly constant at about
10 cents. Some days it goes up to 11 cents, and some days down
to 9
cents. But we are convinced it is worth twice that. So we want to
invest in the company and wait for the market to realise that it is
worth double the current price.
So we bought 10,000 shares at 10cents, for a total of $1,000.
Then
one day there is a bad news announcement, and the future for the
company looks a little grim, so we decide to sell our shares. But the
share price has fallen to 8 cents and the few buyers in the market are
happy to buy for only 5 cents.
We have learnt the hard way here that the shares in this company are
not very liquid. |
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More
information
For more information about liquidity, see
some of the eBook (PDF) Articles:
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And whatever you
do,
beware of the sharks in the ocean!
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