Liquidity risk has a number of important dimensions for the corporate treasurer.
These include the corporate organisation as a whole, individual investments, and the wider markets for borrowing and lending.
- For an organisation, liquidity risk is the risk that the organisation ceases to have access to the cash it needs in order to meet its financial obligations as they fall due. This can arise from a number of different causes, both internal and external to the organisation.
- For an individual investment, liquidity risk is the risk that the investment cannot be turned into cash quickly and without significant loss in value.
- Liquidity risk at the market level includes the drying up of borrowing markets, disrupting the financing of individual organisations.
The overall aim of liquidity management is to ensure that the company can meet its payment obligations as they fall due.
Consequently, in its broadest terms, liquidity risk includes all the risks that adversely affect liquidity management, i.e. that impact the organisation's ability to pay.
When managing liquidity a treasurer needs to consider the wider environmental aspects such as the riskiness of the sector or industry, market and economic issues, as well as the more direct aspects of delivering liquidity to the business.
For this reason liquidity risk is integrated with business strategy and the fortunes of the business itself, and corporate treasurers need to understand the business model of their organisations to properly manage liquidity risk.
For banks and other financial organisations, liquidity risk management is fundamentally important because of their maturity mismatch, combined with high levels of leverage.