CFA, Finance, Financial Products, FRM

Over-The-Counter Market

Over-The-Counter Market

In contrast to exchange, Over-the-counter (OTC) Market i.e. off-market trading happens electronically. Over-the-counter markets structured in a way as a fundamental component of worldwide money, OTC derivatives have uncommon significance. The more prominent adaptability gave to advertise market participants to modify derivative contracts to all as per the suitability to their risk exposure.

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What is the Over-The-Counter Market?

The Over-the-counter (OTC) market refers to any security that is not traded within the context of a regular exchange. More of a decentralized market in which market participants trade stocks, a wide range of financial instruments and commodities, currencies, or other instruments like debt securities, and derivatives directly between two parties and without a central exchange or dealer. Over-the-counter markets don’t have a physical network; rather, exchanging is directed electronically. Specific sorts of derivatives are normalized and can be exchanged on trades, however, most of them are non-standardized and trade OTC. Throughout the years, the business sectors for normalized resources with high exchange volumes have extraordinarily improved their effectiveness by receiving advancements to improve network among buyers and sellers.

Over-the-counter Networks:
In the United States, over-the-counter exchanging of stocks is brought out through systems of market makers. The two notable systems are overseen by the OTC Markets Group and the Financial Industry Regulation Authority (FINRA). These systems give citation administrations to taking an interest in advertising vendors. The trades are executed by dealers on the web or by means of phone.

Pricing OTC Securities:
Buying and selling OTC securities is a bit more complicated mechanism than on exchanges. Like exchanges, you won’t find the prices of OTC securities floating along at the bottom of the screen when you watch your favorite financial news channel. Prices can be tracked through the Over-the-Counter Bulletin Board.

Over-the-counter Trading:
Over-the-counter stocks don’t trade on a regulated exchange as they don’t meet the stringent listing requirements of the major stock exchanges. Many market participants that trade over the counter are viewed as having extraordinary potential as they are building up another product or innovation or directing promising innovative work. The end result is a market that permits dealers to purchase and sell protections without a great deal of the structure and security that proper markets are intended to build up.

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Pros:

  • OTC gives access to securities not accessible on standard trades.
  • Fewer regulations on the OTC permits the passage of numerous organizations who can’t or decide not to, list on different trades.
  • Through the exchange of minimal effort, penny stock, theoretical speculators can acquire significant returns.

Cons:

  •  OTC stocks have less exchange liquidity because of low volume which prompts delays in concluding the exchange and wide offer ask spreads.
  • Fewer regulations prompt less accessible open data, the possibility of obsolete data, and the chance of extortion.
  • OTC stocks are inclined to make unpredictable proceeds onward the arrival of the market and financial information.
  • The speculative nature of the exchange’s causes advertises market integrity issues.
  • Complex and costly operational efficiency.
  • Limited liquidity.
  • Limited visibility over the market.
  • Best Price Discovery difficult as no intermediaries have a full view of the demand and supply

Risk Involved:
The fundamental risks associated with exchanging over the counter markets. An interest in an OTC security is theoretical and includes a serious extent of hazard and speculation. Reliable updates with respect to issuers of OTC securities, their prospects, or the key risks associated with the business of any particular issuer or an investment in the issuer’s securities may not be easily accessible. In this manner, it may be difficult to suitably regard an interest in OTC security.

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Final Thoughts:
To sum up, the OTC marketplace is an alternative source for potential investors. The feature of the enormous growth and size of the OTC market has gained popularity and attracted a number of investors to invest in this type of market because of the customization option available within the terms of the contract.

 

Author:Deepika Shenolikar

About the Author: Deepika Shenolikar is professionally qualified as CFA (ICFAI) & a Risk Professional. Her primary interest lies in analyzing the market trends, investments, and aims for continual professional growth through learning.

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