What is "liquidity risk"?

Liquidity risk refers to the possibility that an investor may struggle to sell an investment quickly without causing its price to drop significantly. This concept is crucial for investors who may need to convert their investments to cash under certain circumstances, such as during a financial emergency or when market conditions rapidly change.

When investments lack liquidity, they may not have many buyers or sellers, leading to wider bid-ask spreads and potentially lower prices when an investor attempts to sell. Thus, understanding liquidity risk helps investors make informed decisions about their portfolios, ensuring they can access cash when necessary without incurring substantial losses.

The other concepts listed do not accurately capture the essence of liquidity risk. The potential for an investment to become obsolete relates more to business risk and technological risk than to liquidity. The threat of losing value due to market fluctuations pertains to market risk, not liquidity. Finally, the likelihood of an investment not generating income involves income risk, which is distinctly different from the challenges posed by liquidity.