Transacting in illiquid securities

If you are planning to invest in securities such as fixed maturity plans (FMPs), closed-ended mutual funds, tax-free bonds or non-convertible debentures, you need to know that these securities are illiquid as there are not many buyers and sellers of these securities in the market.

The first thing that you need to keep in mind is that you need to select the security in which you are planning to put your money with utmost care. You need to compare the rates of interest, residual time to maturity, interest pay-out frequency and, most importantly, your choice of security should depend on your financial goal.

The second thing is to get the price of the security right. While the NAVs of the closed-ended funds and fixed maturity plans provide a guide to the price of these securities, in the case of bonds, the market price of bonds offering similar yields offer a clue as to the right price. Hence, it is always better to place a limit order while buying and selling these securities to get the desired price, rather than placing a market order, where the buying price could be way higher than the desired price or the selling price way lower than expected.

Also, since these are illiquid securities, you need to buy a reasonable quantity of these securities so that you are able to buy and sell them easily. If the quantity is too large, you may not be able to buy or sell at one go, and if it is too less, then there may be no takers for meagre quantities. Moreover, if you are selling before maturity, you need to factor in the transaction costs and taxes to ascertain the net returns you would be getting from these investments.