An illiquid market is characterized by low trading volumes, wide bid-ask spreads, and limited market participants, making it difficult to execute large trades without significantly impacting prices. Illiquid markets often experience volatile price movements due to individual transactions having outsized effects on market prices. These conditions increase transaction costs and execution risks for traders.

Illiquidity can result from various factors including limited market participation, regulatory restrictions, economic uncertainty, or structural market characteristics. During periods of market stress, even normally liquid markets can become illiquid as participants withdraw. Understanding liquidity conditions is crucial for trade execution, risk management, and investment strategy development.

Real-world example: A small-cap stock with daily volume of 10,000 shares experiences 5% price swings when institutional investors try to buy 50,000 shares, demonstrating how illiquid markets amplify price impact from larger transactions.