Liquidity Options

Posted: 21 May 2019

See all articles by Maxim Golts

Maxim Golts

Acadian Asset Management

Mark Kritzman

Windham Capital Management

Date Written: April 5, 2010

Abstract

The financial crisis of 2007-2009 highlighted the importance of liquidity to many investors. University endowment funds, for example, were forced to sell publicly traded securities at substantially depressed values in order to meet funding commitments to private investments. Hedge funds engaged in fire sales of publicly traded securities to meet margin calls from lenders and redemption demands from clients. And financial institutions faced with capital calls sold assets at substantial discounts to their government guaranteed values. Investors could guard against these capital calls by maintaining a reserve of highly liquid securities, but this protection would require them to sacrifice the expected return premium of less liquid investments. We propose, as an alternative, that investors consider purchasing liquidity options to meet unscheduled capital calls. We describe how to structure and price liquidity options, and we demonstrate how the price discovery process of liquid securities determines the fair value of illiquid securities.

Keywords: liquidity, option, volatility, bid-offer spread, hedge funds, private equity

JEL Classification: G12, G13, G23

Suggested Citation

Golts, Maxim and Kritzman, Mark, Liquidity Options (April 5, 2010). Journal of Derivatives, Vol. 18, No. 1, 2010, https://doi.org/10.3905/jod.2010.2010.1.005; Revere Street Working Paper Series No. 272-27. Available at SSRN: https://ssrn.com/abstract=1584857 or http://dx.doi.org/10.2139/ssrn.1584857

Maxim Golts (Contact Author)

Acadian Asset Management ( email )

260 Franklin Street
Boston, MA 02110
United States

Mark Kritzman

Windham Capital Management ( email )

5 Revere Street
Cambridge, MA 02138
United States
617-576-7360 (Phone)
617-576-7359 (Fax)

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