15 November 2021
Over-the-counter markets enable the trade of assets beyond the grasp of formal exchanges. Start-ups, institutions, and crypto whales list their securities through a broker-dealer network and strike deals far from the public’s eye. Most OTC investing happens since some companies don’t meet the listing requirements of exchanges. Hence, they take resort to over-the-counter markets to trade their assets and raise capital. Investors can buy OTC securities similarly as they would publicly trade stocks, but risks may be sizeable. Let’s see how over-the-counter markets work and explore the most reliable OTC investing strategies and platforms.
Both large and small-scale companies engage in OTC trading rather than exchanges. They do so for various reasons like high fees, strict regulations, and requirements. Their stocks come as unlisted, and investments can be in cryptocurrencies, bonds, and derivatives.
Broker-dealers are the ones who carry out the OTC investing by negotiating over computer networks and by phone. They act as market makers and use Pink Sheets or the OTCBB quotation system (provided by FINRA) to buy and sell stocks.
Here’s a typical OTC trading process:
Investors can be individual and institutional. Both groups differ in their investment goals, liquidity needs, terms, and risk tolerance. Retail or individual investors have lower purchasing power and can be seen as speculators. Retail investors are usually non-professional day traders who follow the trends set by the whale players.
Moreover, individual investors may not be eligible for listing on major exchanges since they don’t trade enough shares. Their OTC investing scheme involves shares that sell below the lowest price or penny stocks (less than $5 per share). Conversely, institutional investors are professionals that move markets and make large transactions. They use advanced OTC investing techniques and experts with profound knowledge of how these markets work. Mega whales trade on behalf of their clients and can be banks, pension, hedge or mutual funds, and insurance companies. Thanks to the access to in-depth market data, their investment powers are immense. Finally, many online brokerage accounts end up trading on OTC venues. In short, brokerage firms often route orders to market makers instead of exchanges.
It’s a common perception that OTC investing is similar to trading on exchanges once you find the right broker. Yet, OTC assets don’t trade like listed stocks, whose process resembles a live auction. Instead of involving sellers and buyers that match when they negotiate a price, OTC investing involves shadier, back-door deals.
The most popular OTC investing strategy is the quantitative one. As such, it refers to approaching the market in a directional or market-neutral manner. In short, funds focus on high-volume, arbitrage, and algorithmic trading.
Though institutions prefer quantitative strategies, fundamental ones are gaining popularity as being more profitable. Let’s take a quick look at what risk/return profiles each scheme involves.
Finally, traders also use manipulative actions, such as layering or spoofing, to move prices in their favour.
OTC Markets Group operates the most prominent OTC investing places. This private company runs three tiers with different listing requirements: OTCQX, OTCQB, and the Pink Market. The first one targets established US and international firms with audited financials that can trade on regular exchanges. These companies must meet the highest standards, follow securities laws, and provide the latest disclosure statements. OTCQB facilitates OTC investing for early-stage or growth companies in the development stage. Eligible investors must have a minimum bid price of $0.01, provide financial statements, and not be bankrupt. Qualification and corporate governance requirements are more lenient.
The Pink Market includes foreign companies, shell companies, and penny stocks that refuse to disclose financial information. This OTC place can also be a breeding soil for distressed and dark companies with questionable management and ceased operations. Due to the limited criteria these listing companies meet, the Pink Market bears high risks for OTC investing. Besides the OTC Markets Group, FINRA hosts the Over-the-Counter Bulletin Board. Here, member broker-dealers buy and sell equity of companies not listed on the major stock exchanges, who report to the SEC. Finally, the Grey Market is a catch-all spot for over-the-counter securities not quoted by broker-dealers. These assets rank at the bottom due to the lack of financial information, regulatory compliance, or investor interest.
More and more traders are choosing NextHash for its low fees and wallet assurance of up to 30 million. Both small companies and large corporations can use the NextHash OTC platform to invest crypto-assets and securities wisely. More so, regular investors may find that the only safe way to invest in OTC stocks is through reputable broker-dealers. If you’re tired of expensive and time-consuming OTC investing, NextHash offers fast trade and simplified procedures.