The term share market is naturally associated with large stock exchanges. When you think of buying or selling commodities, equities, or debts, you think of exchanges like the BSE (Bombay Stock Exchange), NSE (National Stock Exchange), and Nasdaq, among many others. These aren’t the only places where you can trade, though. OTC Markets are a viable alternative to stock exchanges. This begs the question, what exactly is an OTC stock market, and why does it not have the same market pull as stock exchanges?
Let’s demystify the scantly understood world of the OTC Market. Read on!
OTC stands for Over-the-Counter. This term finds its way into the market’s name because this is its most significant feature. All trades are completed directly between the buyer and the seller in an over-the-counter fashion.
Naturally, one must wonder why does this market exist?
This is where the second quirk of the OTC market comes to the fore. It’s a haven for unlisted stocks. These companies can’t or choose not to go through the process of getting listed on a major stock exchange. Perhaps they don’t want to pay the listing fee, or maybe they don’t meet the minimum share price required to feature.
Whatever the reason, these companies are often small, have low-profit margins and are priced relatively low. As a result, their volumes are likewise lower than most stocks you would find on exchanges.
For the average investor, over-the-counter trading will look no different than regular trading. The glaring difference is that the purchase is not made from an exchange. Instead, it is directly bought from the ‘owner’ of that particular stock.
An intermediary broker facilitates the transaction between the two parties.
In India, the market operates through brokers, market makers, custodians, and transfer agents of the OTC Exchange of India. Here are the roles played by each individual mentioned above.
Since there is no location where these trades are made, the OTC exchange exists exclusively in the digital world.
Commonly, over-the-counter stocks include shares of small-cap companies. These stocks are often called penny stocks since they seldom sell above a minimum price.
Besides these stocks, you can find several other securities on OTC markets.
The Over-the-Counter market functions in 3 different tiers as designated by the OTC Markets Group. This agency classifies stocks into these categories based on the amount of financial information that is available about the parent company.
OTC stocks list can be full of unlisted entities that can function with fewer restrictions. The Markets Group categorizes companies higher than others if they offer more information about themselves despite this caveat.
The different tiers are:
OTC trading is ideal for those investors who can comprehend and consolidate the risk-reward factors associated with it. Some potential red flags to keep an eye out for are:
Also Read: Best Crypto Exchanges You Need To Know About
To understand how OTC markets are different, let’s first understand its counterpart – the Stock Exchange. To put it simply, a stock exchange is a location where stocks, commodities and bonds are traded. Companies are listed, prices are regulated, and trades are done by brokers who meet strict membership standards in a very transparent manner.
The OTC market fundamentally differs from stock exchanges in all but one of the factors mentioned above.
Trading OTC is done through a similarly-qualified broker. Other than that, the OTC market is not an actual ‘place’. All transactions are digital. The companies on the market are not listed and prices are not regulated at all.
The missing transparency and lack of a regulatory body are why OTC markets exude a shady aura to investors.
OTC markets deal with securities that are not listed on the stock exchanges. It may seem volatile and unpredictable but investors, who are well-versed with how the market functions, can easily sail through it, without significant losses. It is always advised to make sure your investment is in safe hands and you have ample information about particular security before investing.
Ans: OTC Markets may be speculative and volatile, but remember, it’s a good breeding ground for infant, promising companies with a very high financial ceiling. Besides, many industry leaders started their journey as penny stocks. Even greats like Ford and Apple had to start somewhere right!
Ans: It is significantly cheaper. Stocks listed on over-the-counter stock exchanges are often very low priced. Don’t forget to do a diligent market study before the low prices entice you into dipping your toes into this murky pool.
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This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The information contained in this article is for general purposes only and not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision taken on the basis of this article.
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