How important is liquidity in stock trading?
One of the main recommendations for novice traders is the advice to trade the most liquid assets.
Liquidity is the speed with which a product can be sold at the most favorable price, that is, we can say that the greater the demand for a product, the more liquid it is.
But in modern stock trading, slightly different laws apply than in the real market, and to complete a transaction we do not need to search for a buyer or product as in real life.
How important is the liquidity of an asset in this case, can it affect the final result of the transaction, and is it really worth paying attention to this indicator when choosing what to trade on the stock exchange?
The impact of liquidity on broker commissions
First of all, liquidity affects the size of the commission, the spread, which is charged for open transactions by the broker; the difference between similar assets can be simply huge:
Let's take, for example, the most popular currency pair on Forex EUR/USD and the much less popular, and therefore less liquid, pair GBP/NZD.
For EUR/USD, the average spread is 0.7 points or $7 per lot, and for GBP/NZD the spread is already 4 points; taking into account the exchange rate, for a transaction of 1 lot, when opening a transaction, you already need to pay $26 of the spread.
The difference becomes especially noticeable when trading using high leverage, so for scalping strategies it is always recommended to use only the most liquid assets.
Compare for yourself - a leverage of 1:500 and a deposit of 1000, we open a deal with a volume of 5 lots, as a result, for EUR/USD the opening fee will be $35, and for GBP/NZD as much as $130.
If you do not use large leverage and expect to hold the transaction for a long time, then the difference in the spread is unlikely to have a decisive impact on the financial result of your transaction.
It should also be noted that due to a drop in liquidity before the holidays, the spread can increase tens of times even for the most popular currency pairs. Therefore, it is better to refrain from trading at such times.
Liquidity and risk
As a rule, when trading low-liquid assets, exchange rate risks also increase. For such currency pairs there are more frequent exchange rate jumps and more frequent price gaps.
And when purchasing low-liquid securities, there is always a danger that their price will fall to a minimum.
In addition, for less popular assets it is more difficult to track news and find the information necessary for analysis, which means that trading using them will be less effective.
Therefore, the advice to trade the most liquid assets fully justifies its usefulness and is worth listening to.
Liquid currency pairs - https://time-forex.com/pary/likvidnye-pary