Deepening Understanding of the Over-the-Counter (OTC) Market: Mechanisms and Investment Tips

Why Do Investors Need to Understand OTC?

Want to invest in a promising company but can’t find any trace of it on mainstream exchanges? Or wish to trade some personalized financial products but are limited by traditional exchange standards? At this point, the Over The Counter market (abbreviated as OTC market, also known as off-exchange trading) becomes a solution for many investors.

Unlike centralized exchanges, OTC markets offer richer investment options, greater trading flexibility, and more diverse product specifications. As long as you master the right strategies and risk awareness, investors have the opportunity to discover excess returns in this market. This article will provide a comprehensive understanding of how OTC trading works, tradable products, risk characteristics, and how to participate safely.

The Core Definition of the OTC Market

OTC stands for Over The Counter, translated into Chinese as 场外交易. Simply put, it refers to investors not trading on centralized markets (such as stock exchanges), but directly buying and selling various financial products through dispersed channels like banks, brokerages, telephone systems, or electronic platforms. This market is sometimes also called “over-the-counter trading,” “desk trading,” or “OTC market.”

The biggest feature of OTC trading is that prices are negotiated directly between trading parties, rather than generated through a unified market auction. The counterparties are also highly diverse—potentially including banks, brokerages, large corporations, individual investors, and even other financial institutions.

Which Companies Choose OTC Trading?

Companies that trade in the OTC market generally fall into two categories:

The first type is companies that do not meet listing qualifications—these are mostly small to medium-sized or startup companies, because their scale, profitability, or disclosure requirements do not meet the standards of the stock exchange, so they can only operate in the OTC market.

The second type is companies that are eligible for listing but actively choose OTC trading—they may do so to avoid excessive information disclosure, reduce regulatory burdens, or lower competitive pressures, and are unwilling to bear the responsibilities and costs of being listed.

With the development of the internet, the scale of OTC markets has expanded rapidly. Traders operate in a relatively relaxed regulatory environment, providing highly customized products and trading schemes to meet the increasing convenience needs of global investors. However, this flexibility comes with lower price transparency and higher risks—the lack of strict trading rules and unified information disclosure systems means both sides face credit risks.

Types of Tradable Products in the OTC Market

OTC trading covers a much broader range of products than centralized exchanges, mainly including:

Stocks: Besides standard stocks listed on exchanges, OTC markets also trade a large number of unlisted stocks, especially those of startups and small companies.

Bonds: Due to their large issuance volume, variety, but low trading frequency, bonds are more advantageous in OTC trading environments, with more flexible liquidity arrangements.

Financial Derivatives: Options, futures, spread contracts, and other structured products are suitable for OTC trading because they are often non-standardized.

Foreign Exchange: Transactions of various currency pairs mostly occur in OTC markets. This is the largest OTC market globally, with an average daily trading volume exceeding 6 trillion USD.

Cryptocurrencies: Popular cryptocurrencies can be traded in large amounts in OTC markets, allowing investors to purchase substantial quantities at once, which is often difficult to achieve on professional crypto exchanges due to liquidity constraints.

How the OTC Market Operates in Taiwan

Taking Taiwan as an example, the stock market is divided into two levels: the Stock Exchange (listed market) and the OTC Market (GTSM). The OTC index (also called the GTSM index) compiled by the GTSM reflects the overall performance of this market, and many investors observe the OTC index to gauge the trends of small and medium-sized stocks.

The government established these two tiers to balance the needs: listed companies must meet higher standards to ensure quality, but overly strict requirements can hinder startup development. To balance this, the government created the GTSM, allowing companies recommended by at least two brokerage firms to enter. If within six months the company improves performance (e.g., turns profitable or significantly enhances its financial health), it can apply for upgrading to the main board.

This relatively lenient entry threshold attracts truly promising new enterprises but also brings in some dubious companies. Additionally, some unscrupulous brokers manipulate the market by promoting high-risk targets to harvest investors. Therefore, investors must be especially cautious when investing here—choosing good targets and reputable brokers is essential.

Taiwan OTC Trading Hours and Rules Comparison Table

Trading rules are identical to those of the main market: price limits (±10%), call auction, matching trades, and daily trading hours. Additionally, OTC stocks follow a T+2 settlement system, the same as listed stocks, with settlement completed two working days after the transaction.

Overall, Taiwan’s OTC market mainly involves small and medium-sized, growth-oriented companies. It has higher volatility but offers more growth potential and thematic opportunities. Since liquidity is better than the Emerging Market, and the system is the same as the main market, the entry barrier for OTC stocks is not too high for ordinary investors. However, due to smaller company sizes, they are more susceptible to news and market sentiment, so investors should be cautious of price fluctuations.

7 Key Differences Between OTC Market and On-Exchange Trading

Off-exchange trading differs from traditional exchange trading in terms of investment experience and risk tolerance, mainly in the following aspects:

Product Specifications

On-exchange trading emphasizes standardization—each product has uniform specifications and pricing standards. Conversely, OTC products are highly non-standardized, with each transaction customizable according to the needs of both parties. For analogy, on-exchange trading is like exchanging currency at a bank with fixed rates and fees; OTC trading is like pawning at a private pawnshop, where conditions vary, but the range of products and negotiation space is larger.

Trading Mode

On-exchange uses call auction trading, where all participants quote and bid at the same time and place (or electronically), and transactions are executed at the market clearing price, offering high transparency and fairness. OTC trading involves direct negotiation, where buyers and sellers agree on prices. Due to the lack of transparency, the same seller may quote different prices to different buyers. Therefore, in OTC markets, information advantage often outweighs capital scale.

Main Trading Products

On-exchange trading mainly involves standardized securities, futures, and funds, as they need to meet certain market size requirements to be listed, resulting in fewer product types. OTC trading mainly involves forex CFDs, cryptocurrencies, unlisted stocks, and customized derivatives, with a wide variety to meet diverse investor needs.

Trading Platforms and Regulatory Systems

On-exchange markets are authorized by the government and fully supervised by financial regulators. OTC markets are provided by various brokerages and financial institutions, with varying degrees of regulation—some are regulated, others operate in regulatory blind spots. This is why investors must be especially cautious of fake exchanges and scam platforms.

Trading Transparency

All transaction prices and volumes on exchanges are publicly available, allowing anyone to access real-time quotes and historical data. OTC markets lack such mandatory disclosure, and many trading details are not publicly disclosed. This information gap creates arbitrage opportunities for savvy traders but also poses significant risks for inexperienced investors.

Trading Volume and Liquidity

Centralized exchanges attract large global capital due to strict regulation and transparent rules, resulting in huge trading volumes and liquidity. OTC markets have significantly lower trading volume and liquidity; some products even have very poor liquidity, making it difficult for investors to exit at desired prices quickly.

Trading Methods and Leverage Options

On-exchange trading is subject to strict risk controls, with restrictions on leverage and short selling. OTC trading is more relaxed, allowing investors to choose higher leverage ratios and more diverse trading methods to amplify gains—though risks are also increased accordingly.

Advantages of the OTC Market

Richer Investment Choices: OTC trading opens the door to thousands of products—derivatives, binary options, CFDs, forex, cryptocurrencies, and more—far beyond traditional exchanges.

Greater Trading Flexibility: Trading methods and product specifications can be fully customized according to individual investment goals, unconstrained by standardized products.

More Leverage Options: Compared to the low leverage limits of traditional markets, OTC trading offers multiple levels of leverage, greatly improving capital efficiency.

Continuous Market Environment Improvement: Modern OTC markets have introduced multiple security measures and risk controls. Many legitimate brokers are authorized and regulated by reputable financial institutions, with increasing professionalism. As long as investors have basic financial knowledge, they can participate with relative confidence.

Risks and Concerns of the OTC Market

Regulatory Gaps: OTC markets lack unified regulations, with relatively loose oversight and incomplete legal frameworks. This creates a breeding ground for fraudulent brokers and illegal entities. In contrast, listed companies and securities on exchanges must comply with strict disclosure and compliance requirements.

Liquidity Risks: OTC securities have much lower liquidity than exchange-traded ones. Investors may find it difficult to exit at reasonable prices or may be forced to sell at significant discounts.

Market Risks and Information Asymmetry: OTC markets are affected by volatility, and the lack of transparent, publicly available information makes it difficult for most investors to access timely and open market data, increasing the risk of falling into information traps.

Counterparty Credit Risk: Without an exchange as a guarantor, investors directly bear the risk of counterparty default. Some products are highly volatile and illiquid, further amplifying risks.

Fraud Risks: There are malicious actors exploiting false information to deceive investors. Without proper discernment, investors are easily scammed.

Is OTC Trading Really Unsafe?

Lack of exchange regulation does not mean trading is completely unsafe. Compared to on-exchange trading, OTC trading indeed involves higher risks, but it is not uncontrollable.

The core risk stems from the absence of unified rules. Sellers may quote different prices to different buyers, and traders must directly bear credit risks. Additionally, some products are highly volatile and illiquid, further increasing risks.

To ensure safe OTC trading, investors should take the following steps:

First, choose brokers carefully: Ensure your broker is regulated by reputable authorities (such as ASIC, CIMA in the Cayman Islands, etc.) and has strong risk management capabilities.

Second, focus on mature products: Prioritize trading in forex, mainstream cryptocurrencies, and other highly liquid, well-known markets. Pay attention to key indicators like spreads, liquidity, and deposit/withdrawal convenience.

Finally, utilize protective mechanisms: Many legitimate platforms offer investor protections, including risk assessment questionnaires, KYC verification, complaint handling mechanisms, etc., which help reduce trading risks.

Summary

The OTC market opens doors to opportunities that traditional exchanges cannot provide. It offers a wide range of products, flexible trading methods, and higher leverage, making it suitable for investors with sufficient knowledge and risk awareness.

But remember: the greater the freedom in OTC trading, the stronger the risk awareness required. Choosing regulated brokers, thoroughly understanding trading products, and strictly implementing risk controls are essential tools for safe participation in the OTC market.