Apa maksud dari liquidity intermediation

In our last blog, we discussed liquidity and defined it as a measure of market participants’ ability to trade what they want, when they want, at a mutually agreed upon price for a specific quantity. We explained why liquidity is important to risk management and capital development. We also addressed the factors that contribute to a liquid market, including a high number of participants, a high traded volume, and a relatively balanced and deep order book. 

This week, we’ll discuss another key factor that contributes to liquid markets: liquidity providers. As principal traders, we’ll be focusing largely on how principal trading firms (PTFs) contribute to liquidity provision.

The most liquid, lowest-cost markets are those where there are no barriers to participation by a wide range of market participants, using a mix of strategies and with a variety of holding periods.

As we mentioned last week, intermediaries are critical to providing liquidity because they connect buyers and sellers across time and enable supply to meet demand in a timely fashion. Liquidity providers can be on either side of a transaction, as buyer or seller. By entering and holding positions they bridge the gap between market participants. In this way, they quite literally make a market for an asset. This allows long-term investors to buy or sell stock whenever they want to, without having to wait for another long-term investor looking to do the opposite; it allows farmers to hedge against a drop in crop prices and food production companies to hedge against a rise in the cost of ingredients. 

Liquidity provision is commonly understood as acting as an intermediary by continually trading in and out of relatively short-term positions. Liquidity providers tend to send orders to the marketplace at prices that reflect available information regarding asset prices including the risk associated with transacting and holding that asset. The hallmark of liquidity providers is that they continually provide liquidity in all market conditions, not just when they desire to accumulate or close-out longer term investment positions.

Banks, financial institutions, and principal trading firms (PTFs) all act as liquidity providers in today’s markets. The different business models and capabilities of these liquidity providers allow them to serve the market in different ways. For instance, banks with large balance sheets may carry more inventory and be able to facilitate larger transactions in a given asset. PTFs, on the other hand, serve investors by maintaining tighter bid/ask spreads, offering reliable market liquidity, and optimizing price discovery across products and asset classes. PTFs do so by effectively processing market information from many public sources and efficiently deploying their capital.

Liquidity provision in modern markets requires diversity among liquidity providers to facilitate risk transfer and efficiently match buyers with sellers during continuous trading.

There is important diversity of strategies and approaches among PTF liquidity providers as well. Business models vary from mostly passive liquidity-provider firms to quantitative firms that generally trade actively, each representing a share of activity. Even within a single firm, there is often a mix of trading strategies. Holding periods also vary: depending on the strategies operated, PTFs may hold positions for seconds, minutes, hours or days.

All of these strategies contribute to liquidity in our markets, which is a topic we’ll explore in greater detail in our next blog. 

Liquidity is the ability of a firm, company, or even an individual to pay its debts without suffering catastrophic losses. Conversely, liquidity risk stems from the lack of marketability of an investment that can't be bought or sold quickly enough to prevent or minimize a loss. It is typically reflected in unusually wide bid-ask spreads or large price movements.

• Liquidity is the ability of a firm, company, or even an individual to pay its debts without suffering catastrophic losses.
• Investors, managers, and creditors use liquidity measurement ratios when deciding the level of risk within an organization.
• If an individual investor, business, or financial institution cannot meet its short-term debt obligations, it is experiencing liquidity risk.

Common knowledge is that the smaller the size of the security or its issuer, the larger the liquidity risk. Drops in the value of stocks and other securities motivated many investors to sell their holdings at any price in the aftermath of the 9/11 attacks, as well as during the 2007 to 2008 global credit crisis. This rush to the exits caused widening bid-ask spreads and large price declines, which further contributed to market illiquidity.

Liquidity risk occurs when an individual investor, business, or financial institution cannot meet its short-term debt obligations. The investor or entity might be unable to convert an asset into cash without giving up capital and income due to a lack of buyers or an inefficient market.

Financial institutions depend upon borrowed money to a considerable extent, so they're commonly scrutinized to determine whether they can meet their debt obligations without realizing great losses, which could be catastrophic. Institutions, therefore, face strict compliance requirements and stress tests to measure their financial stability.

The Federal Deposit Insurance Corporation (FDIC) released a proposal in April 2016 that created a net stable funding ratio. It was intended to help increase banks’ liquidity during periods of financial stress. The ratio indicates whether banks own enough high-quality assets that can be easily converted into cash within one year. Banks rely less on short-term funding, which tends to be more volatile.

During the 2008 financial crisis, many big banks failed or faced insolvency issues due to liquidity problems. The FDIC ratio is in line with the international Basel standard, created in 2015, and it reduces banks’ vulnerability in the event of another financial crisis.

Investors, managers, and creditors use liquidity measurement ratios when deciding the level of risk within an organization. They often compare short-term liabilities and the liquid assets listed on a company’s financial statements.

If a business has too much liquidity risk, it must sell its assets, bring in additional revenue, or find another way to reduce the discrepancy between available cash and its debt obligations.

A $500,000 home might have no buyer when the real estate market is down, but the home might sell above its listed price when the market improves. The owners might sell the home for less and lose money in the transaction if they need cash quickly so must sell while the market is down.

Investors should consider whether they can convert their short-term debt obligations into cash before investing in long-term illiquid assets to hedge against liquidity risk.