What is an over-the-counter trading example?

OTC trading refers to the buying and selling of financial instruments directly between two parties rather than through a formal exchange. For example, shares of small or unlisted companies are often traded through broker networks or electronic platforms instead of stock exchanges like the NSE.

What type of market is over-the-counter?

An OTC stock market is a decentralised marketplace where securities not listed on major exchanges are traded. It involves direct negotiations between buyers and sellers, usually facilitated by brokers, offering access to smaller or emerging companies seeking capital.

What is OTC in business?

In business, over-the-counter refers to financial products or trades conducted outside formal exchanges, such as private agreements between two entities. It can also describe retail products, like medicines, sold directly to consumers without a prescription.

What is the full form of OTC trade?

The OTC full form is “Over the Counter”. It describes trades or financial transactions carried out directly between two parties without going through a regulated stock exchange or centralised trading system.

How to Buy, Over the Counter Stocks in Share Market

There are thousands of businesses that offer up their equity to investors in order to raise capital. This is done by putting up their shares for purchase. However not all such businesses trade on the major stock exchanges such as the NSE and the BSE. There are over 6000 companies listed on the Bombay Stock Exchange (BSE) and over 2200 companies are listed on the National Stock Exchange (NSE). But this is far from the sum total of all the companies whose stock is traded in the markets. These other stocks that are not traded on the exchanges are called Over the Counter stocks or OTC stocks and are traded in OTC market.

Key Takeaways

Over-the-counter (OTC) stocks trade outside major exchanges like NSE or BSE as they do not meet listing standards.

OTC stocks are appealing to investors for their low prices and potential for rapid, multi-bagger returns.

Poor transparency, low liquidity, and difficulty in selling shares when volumes are thin are some of the challenges with these shares.

OTC stocks are often targets of pump-and-dump scams. A scenario where prices are inorganically raised before promoters sell off.

A full-service broker offering personalized assistance and in-person support is required for OTC stocks.

What is OTC Market?

The OTC market is a decentralised marketplace where investors buy and sell shares that are not listed on the formal stock exchanges. OTC trading is done through a network of brokers-dealers and does not have to adhere to stringent rules and regulations. Because of this flexibility, a wide range of financial instruments can be traded. However, it is vital to note that it also involves high risks as a result of reduced oversight.

Unlisted stocks that fail to meet the basic requirements of the major exchanges form the primary assets in the OTC market. Unlisted companies automatically become public and are able to sell stocks without being listed on the traditional exchanges.

The OTC market is an excellent platform for small and emerging companies to raise capital. While investments in the OTC markets can be risky, they do provide investors with an opportunity to discover undervalued assets and to make good money.

History of Over-the-Counter (OTC) Markets

Originally, the company was founded in 1913 under the name of National Quotation Bureau (NBQ). For many years, it provided quotations for both shares and bonds, published in paper-based formats and known as Pink Sheets and Yellow Sheets. These sheets got their name on the basis of the sheets that they were printed on. Pink for stocks and yellow for bonds. The primary objective was to wait till these stocks rose to a certain amount and meet the standards of the national stock exchange, and then to switch them over to central stock exchanges like the BSE and NSE.

What are Over-the-Counter Stocks?

Over the counter, stocks are stocks that are not traded on the stock exchanges because they do not meet the stringent requirements laid down for listing by the exchanges. For instance, on the BSE, the mainboard listing criteria for small-cap companies require a minimum post-issue paid-up capital of ₹20 crores and minimum market capitalization of ₹25 crores. Companies that do not meet these criteria can still issue shares but these shares cannot be traded on the BSE. Similar rules apply to the NSE. The stocks of such companies that are not traded on the major stock exchanges can be bought from full-service brokers and are called OTC stocks.

How to Buy Over-the-Counter Stocks

Unlike normal stocks, OTC stocks cannot always be bought using your online demat account as OTC stocks do not trade on the major exchanges. To buy OTC stocks you will need the services of a full-service broker. Stock market brokers are of two types:

Full-Service Brokers

Full-service brokers provide the complete range of equities markets related services from buying and selling of stocks to trading advice to portfolio management services. Full-service brokers have a physical presence in the form of offices in the geographies that they operate in and this allows them to offer a much wider range of services.

Discount Brokers

Discount brokers allow users to trade in the markets, usually using a demat account and an online trading platform. Most online brokers are discount brokers. They provide limited services at a discounted fee.

Over the counter, stocks can thus only be bought from full-service brokers as they have a physical presence in the areas they operate.

Advantages and Risks of OTC Stocks

Away from the fast-paced world of stock exchanges, there is a thriving OTC stock market where such stocks are actively traded. People invest in OTC stocks because:

OTC Stocks are Cheap

Some OTC stocks are also called penny stocks because of their low prices. As a result, investors can potentially buy a large number of such stocks.

Growth Potential

Some good OTC stocks have the potential of giving multi-bagger returns and as a result investors are always on the lookout for such stocks. However, such stocks are very few, and finding them requires a lot of research.

Access to Wider Market

Companies that generally list on the OTC market are smaller, emerging companies that do not meet the requirements of the NSE and BSE. So, investors can discover and access more businesses, including startups with innovative products and significant growth potential.

Disadvantages of OTC Markets

As a result of loose regulations, OTC markets carry a high risk, enabling financially weak companies to issue securities without full disclosure. While it offers opportunities, there are also certain risks. This includes:

Increased Risk Exposure

OTC markets are more prone to fraud and price manipulations due to minimal regulatory oversight. Investors may face counterparty risks if the parties fail to meet their obligations.

Lack of Transparency

Since OTC stocks are not listed on exchanges, they do not have to follow mandatory disclosure regulations, and as a result, very little information is usually available to the investor about them. In the absence of any reliable information about the company's finances, it is difficult to make informed investment decisions.

Lack of Liquidity

OTC stocks are not highly liquid because of the small size of the issuer. This means there is very low volume when trading an OTC stock. An investor is always at risk of getting stuck with an OTC stock, as he/she may not be able to find a buyer due to the low volumes. By comparison, stocks traded on exchanges generally have healthy volumes, and an investor can always find a buyer or a seller for a good stock.

Potential for Fraud

OTC stocks are often the subject of scams such as pump-and-dump schemes in which miscreants unethically promote an OTC stock using social media or messaging services to lure gullible investors into buying it. Once the price of the stock goes up on account of a sufficient number of investors having bought it, the miscreants sell off their shares, leaving investors in the lurch.

Limited Analyst Coverage

As compared to other stocks, OTC stocks have less exposure from media and financial analysts. This lack of information may obstruct investors from putting their money in these trades.

Difference Between OTC and Stock Exchanges

The following table highlights the difference between OTC and stock exchanges.

Parameter	OTC Markets	Stock Exchange
Definition	Decentralised network for trading securities	Centralised marketplace for trading securities
Regulations	Less stringent	Heavily regulated
Listing Requirements	No requirements	Strict requirements to meet
Transparency	Lower transparency	Higher transparency
Liquidity	Lower liquidity	Higher liquidity
Market Size	Smaller market	Larger market
Types of securities	Smaller companies, debt securities	Publicly traded stocks
Trading hours	Varies depending on the security	Fixed hours ( 9:30 am to 4 pm )
Market makers	Frequently used	Used to facilitate traders

Conclusion

Over-the-counter or OTC stocks are stocks of companies that are not listed on the major stock exchanges. They are attractive because of their low prices and potential for faster growth. However, they also come with greater risks, lower trading volume, and a lack of information about the financials of the underlying business. They are also susceptible to scams such as pump-and-dump schemes. However, some OTC stocks can be genuinely good investments. Many big companies of today started trading first as OTC stocks. Investors can trade in OTC stocks provided they have done their research and are sure of a particular company’s growth prospects. OTC stocks can be bought from most full-service brokers.