What Does Illiquidity In Real Estate Mean?

The term illiquidity refers to shares, bonds, or other assets that cannot be easily exchanged or sold for cash without suffering substantial losses in value. Due to low trading activity or interest in illiquid real estate, investors and speculators can be reluctant to purchase them, making it hard to sell them quickly.

It’s a well-known fact that real estate is an illiquid asset. In contrast to securities such as stocks and government bonds, which are traded in large volumes, illiquid assets include private securities and hard assets with lower trading volumes.

Rather than speculating on the characteristics of an asset, the factors that determine its liquidity, and the consequences of owning an illiquid asset—in consideration of real estate—the following explores why real estate is considered illiquid and the benefits and risks associated with it.

Real Estate as an Illiquid Asset

Is real estate considered an illiquid asset, and if so, why? It is true that most illiquid assets are hard, tangible assets, but this is not the main factor contributing to their illiquidity.

The illiquidity in real estate means that it is determined by the level of supply and demand within the market for an asset, as well as its nature, including valuation ease and the ability to trade it.

There are many factors that determine why real estate is considered illiquid, including the following:

Lack of Public Markets

Real estate transactions such as commercial real estate funds generally occur on the private market, contrary to most securities. In contrast to public markets, where prices are updated daily and consumers have extensive knowledge, the private market operates on an as-needed basis and lacks transparency.

Also, entering private markets requires a degree of credibility or status, which makes them a lot harder to access.

Amount of Work Involved

Real estate transactions are complicated affairs that involve many parties and a lot of paperwork, even in less complicated dealings like real estate funds.

Due to the length of time required to structure an offering, arrange financing, and gather due diligence items, the process could take up to weeks, further slowing down the process of turning real estate into cash.

Availability of Capital

It goes without saying that real estate is an expensive investment. Transactions that involve substantial capital pooling, similar to real estate syndication, move more slowly. In the operational phase, while equity owners may have difficulty finding buyers for their respective shares, lenders may impose covenants regarding the financial management of a property.

Even though these factors demonstrate the reasons why real estate is considered illiquid, they do not paint the entire picture. A number of factors contribute to the illiquidity of the real estate market, including transaction costs, inventory risk, and buyer and seller difficulty.

Importance of Illiquidity for Real Estate Investors

As private investments are slower to respond to valuation shifts than public investments, such as stocks and bonds, illiquid investments like real estate also provide investors with portfolio diversification and downturn protection.

The illiquidity of real estate investments may have some downsides, but there are also many positives. Wealth managers can use the illiquidity premium to gain greater control over their portfolios, diversify their risks, and mitigate their losses.

A real estate investor needs to have a good understanding of liquidity and illiquidity. The fact that an asset is illiquid doesn’t mean it’s bad or good—it’s merely a characterization of the asset class.

Due to this reality, there is usually a minimum hold period for real estate crowdfunding platforms. It would be counterproductive to allow investors to sell shares at will in the real estate sector since liquidity events in this sector require marketing times of months or years.

Getting Started with Real Estate Investments

There are many benefits to investing in real estate, but there are some drawbacks as well. One disadvantage is that real estate has little liquidity or is difficult to convert from assets to cash and vice versa. Despite this, investing in real estate can still be very beneficial with its passive income and tax advantages. 

There has been a trend of investing in real estate among investors for decades—now, you can take advantage of it, too. By choosing our team, you can expect a diversified and consistent portfolio of real estate assets.

To begin your real estate journey, email us at info@saintinvestment.com or contact us at 949-881-7128 at Saint Investment Group today!

Frequently Asked Questions:

What is illiquidity in real estate?

In real estate, illiquidity refers to the difficulty of swiftly and readily selling or turning a property into cash without materially affecting its value. Long transaction periods, a small pool of possible purchasers, and the distinctive and frequently complicated nature of real estate assets all contribute to this.
In comparison to stocks, bonds, and other financial investments, which can be purchased and sold swiftly and readily on structured markets, real estate is often seen as a less liquid asset.

Why is real estate considered an illiquid asset?

Real estate is considered an illiquid asset because the process of buying and selling properties can take much longer compared to financial assets like stocks and bonds. Factors such as the complexity of real estate transactions, the need for property inspections, appraisals, and title transfers, and limited pool of potential buyers all contribute to the illiquidity of real estate. Additionally, real estate transactions often involve large sums of money, making it difficult for individuals to buy or sell quickly without significantly impacting the value of the property.

What are the risks associated with illiquid real estate investments?

Illiquid real estate investments pose risks such as difficulty in selling quickly, limited diversification opportunities, difficulties in obtaining financing, and lower liquidity premium.