## Beginner's Guide to Investing: What Exactly Is OTC Over-the-Counter Trading?

Many investors have encountered the same dilemma — they are optimistic about a company but cannot find it on mainstream exchanges. At this point, you need to understand the **OTC (Over-the-Counter) market**. OTC trading opens a door for investors to access a broader range of assets, but it also comes with more opportunities and risks. What exactly is OTC, how does it operate, and what should you be cautious about? This article will provide an in-depth explanation.

## What Is OTC? A Deep Dive into Over-the-Counter Trading Mechanisms

**OTC (Over The Counter)** trading, also known as "over-the-counter trading," "dealer market," or "pink sheets," is a trading method that does not rely on centralized exchanges. In this market, investors do not trade at a centralized venue like a stock exchange but complete transactions through banks, brokers, phone calls, or various electronic systems with different counterparties.

Unlike on-exchange trading, where prices are determined by a unified bidding process, OTC prices are negotiated directly between buyer and seller. This means that counterparties are highly diverse — they could be banks, securities firms, corporations, or individual investors. Companies that trade OTC are usually those that do not meet the listing requirements of exchanges (often small to medium-sized enterprises or startups), or they are companies that are eligible to list but choose to stay in the OTC market for business reasons.

## Why Has the OTC Market Flourished?

Over the past decades, the international financial market has expanded rapidly, and investors' demand for trading convenience has increased continuously. The development of the internet has fundamentally changed how OTC markets operate, leading to rapid growth in trading volume and participation. Because OTC markets adopt relatively relaxed rules and regulations, dealers can offer more flexible and customizable trading products, which is highly attractive to investors seeking personalized investment solutions.

However, compared to the high transparency of on-exchange trading, OTC trading lacks strict trading rules, information disclosure requirements, and regulatory oversight, resulting in higher risks. Counterparty credit risk and other issues are critical considerations for investors before entering the OTC market.

## What Products Are Covered in OTC Trading?

OTC trading offers a much wider variety of products than on-exchange trading, including:

**Stocks** — Besides listed stocks, the OTC market is a primary trading venue for startups and small enterprises' stocks. These companies either do not meet listing thresholds or choose to remain private temporarily.

**Bonds** — OTC trading is especially suitable for bonds, as issuance volumes are large and diverse, but trading frequency is lower than stocks. The non-standardized nature of OTC bonds can be an advantage.

**Derivatives** — Options, futures, CFDs, and other contract-based products can be traded OTC.

**Foreign Exchange** — Currency trading on various platforms is generally OTC.

**Crypto** — Popular cryptocurrencies can be traded in large amounts OTC, which is often difficult to achieve in dedicated crypto spot markets through one-time large purchases.

## How Does OTC Trading Work? A Case Study of Taiwan's OTC Market

Taiwan's stock market is divided into two tiers: the "Stock Exchange" and the "OTC (Over-the-Counter) Market" operated by the Taipei Exchange (TPEx). The OTC index (TPEx index) reflects the overall trend of Taiwan's small and medium-sized stocks, and many investors observe this index to gauge the small-cap market.

The operation process of Taiwan's OTC market is as follows:

**Step 1**: Investors place orders through brokers, following the same process as buying listed stocks.

**Step 2**: The order is uploaded to the Taipei Exchange's Automated Trading System (ATS), which matches buy and sell orders based on the "price priority, time priority" principle. The technical rules are synchronized with the listed market, requiring no additional steps.

**OTC Trading Hours and Rules**

| Session | Time |
|---------|-------|
| Pre-market | 08:30–09:00 |
| Regular trading | 09:00–13:30 |
| Post-market pricing | 13:40–14:30 |

**Key Rules Explained**
- Call auction frequency: every 5 seconds
- Price fluctuation limit: ±10% (same as listed stocks)
- Settlement system: T+2 (identical to listed stocks, settlement completed within two working days after transaction)

OTC trading features price limits, call auctions, matching trades, and daily trading hours to ensure market order. OTC companies listed on TPEx must comply with information disclosure regulations, including quarterly and annual reports and major news announcements, making them more transparent than emerging market companies.

Overall, the OTC market mainly consists of small and growth-oriented companies, with higher volatility. Since liquidity is better than emerging markets and the system is similar to listed stocks, retail investors face relatively low entry barriers. However, due to smaller company sizes, stock prices are more susceptible to news and market sentiment, so price fluctuation risks should be carefully monitored.

## Key Differences Between OTC and On-Exchange Trading: Seven Major Points

To understand what OTC is, it’s essential to compare it with on-exchange trading. Here are the main differences:

| Aspect | On-Exchange Trading (Centralized Market) | OTC Trading (Over-the-Counter) |
|---------|----------------------------------------|------------------------------|
| **Product Standardization** | Standardized | Non-standardized |
| **Trading Mode** | Call auction | Negotiated trading |
| **Trading Venue** | Central trading hall and electronic systems | Dispersed, no centralized venue |
| **Main Products** | Standard securities, bonds, futures, funds | Financial derivatives, forex, CFDs, unlisted stocks |
| **Regulation** | Strict government and regulatory oversight | Relatively relaxed regulation |
| **Transparency** | Public prices and trading volumes | Not necessarily public |
| **Trading Volume & Liquidity** | Large volume, high liquidity | Smaller volume, lower liquidity |

**① Product Standardization**

The core feature of on-exchange trading is "standardization." For example, gold trading on an exchange is like going to a bank — each has uniform standards; OTC trading is like going to a pawnshop — each has different conditions. Pawnshops are less regulated but offer a wider variety of tradable goods, providing alternatives.

**② Trading Mode Differences**

On-exchange uses call auctions, with transparent and fair trading, but profit margins are limited. OTC uses negotiation, where buyers and sellers directly agree on prices, and information can be more valuable than capital. Lack of transparency can benefit traders with better information, but those lacking information face higher risks.

**③ Range of Trading Products**

On-exchange mainly deals with standardized securities and futures, while OTC covers forex CFDs, cryptocurrencies, unlisted stocks, and more. Due to the requirement for product standardization, only products with sufficient market scale are listed, limiting the variety.

**④ Regulation and Platforms**

On-exchange markets are approved and regulated by the government, ensuring higher security. OTC markets are operated by brokers and are only partially regulated, which increases the risk of fraud. Many scammers set up fake exchanges; investors should choose government-licensed and regulated platforms for safety.

**⑤ Transparency**

On-exchange markets disclose all transaction prices and volumes, while OTC markets do not necessarily do so. The lack of mandatory disclosure leads to significant information asymmetry, allowing savvy traders to profit while uninformed investors risk losses.

**⑥ Trading Volume and Liquidity**

On-exchange trading has large volumes and high liquidity, attracting international capital. OTC trading has smaller volumes and lower liquidity, making it harder for sellers to exit quickly or forcing them to accept unfavorable prices.

**⑦ Flexibility of Trading Methods**

On-exchange markets are subject to risk controls, limiting leverage and short-selling. OTC trading has fewer restrictions, allowing investors to employ various trading strategies more flexibly.

## Advantages of OTC Over-the-Counter Trading

**More Investment Options** — OTC markets enable access to derivatives, binary options, CFDs, forex, and other diverse investment forms, offering a wide market selection.

**Highly Flexible Trading** — Products and trading methods can be customized, allowing investors to tailor strategies to their goals.

**Leverage Flexibility** — Traditional markets have limited leverage and restrictions, but OTC offers multiple leverage options, enabling higher leverage to amplify gains (and risks).

**Gradual Regulatory Improvement** — OTC markets are enhancing security mechanisms and establishing multi-layered protections. Licensed brokers under reputable financial institutions are becoming more professional.

## Risks to Watch Out for in OTC Over-the-Counter Trading

**Lack of Unified Regulation** — OTC markets lack uniform rules, and regulatory oversight is lax, leading to many scams by fraudulent brokers. Companies listed on exchanges must follow strict regulations, but OTC companies often do not, increasing risks.

**Liquidity Risk** — OTC securities have much lower liquidity than centralized exchanges, making it difficult to exit positions at desired prices or risking being trapped.

**Market Volatility Risk** — Similar to stock markets, OTC trading is affected by market fluctuations. However, without transparent information, OTC investors often react passively to market changes.

**Credit and Scam Risks** — Counterparty credit risk exists, and malicious actors may use false information to deceive investors.

## How to Safely Conduct OTC Over-the-Counter Trading?

What is OTC, but more importantly — is it safe? The answer depends on your choices.

**First Priority: Ensure Broker Safety** — Choose licensed, well-regulated brokers with strong risk management. Platforms approved and regulated by the government are trustworthy.

**Second Priority: Select Mature Trading Products** — Focus on liquid, well-informed assets like mainstream forex and reputable cryptocurrencies, and understand details like spreads and liquidity.

**Third Priority: Use Protective Measures** — Legitimate platforms offer risk assessments, KYC procedures, complaint mechanisms, and investor protections to reduce risks.

**Fourth Priority: Be Cautious of Traps** — Beware of platforms promising high returns, unfamiliar brokers, and exchanges lacking transparent operations.

## Conclusion

What is OTC? It is a relatively relaxed, flexible trading market with higher risks. Compared to the regulated and transparent on-exchange trading, OTC offers more choices and customization but requires investors to have heightened risk awareness. Success in OTC trading depends not only on choosing the right assets but also on selecting reputable brokers and understanding the risks involved. OTC is not inherently unsafe, but its safety depends on the investor’s judgment and decision-making ability.