## What is OTC? An In-Depth Look at the Mechanics of Over-the-Counter Trading

OTC (Over The Counter) refers to a securities trading method conducted outside of formal exchanges. In simple terms, when you cannot find your desired company's stock listed on mainstream exchanges, you can turn to the OTC market for opportunities. This market is large in scale, offers flexible trading methods, but also involves varying degrees of risk.

### How does OTC trading work?

OTC trading does not occur in a centralized trading hall but is carried out through dispersed channels such as banks, brokerages, phone calls, and electronic systems. The two parties negotiate the price directly, unlike centralized markets which have a unified bidding mechanism. The counterparties can include financial institutions, corporations, individual investors, and more.

Taiwan’s OTC market is operated by the Taipei Exchange (TPEx), which has a complete matching system. When investors place orders through brokers, the orders are uploaded to an Automated Trading System (ATS), which matches trades based on price priority and time priority. A call auction occurs every 5 seconds, with price fluctuation limits of ±10%, the same as listed stocks. Settlement is T+2, meaning settlement is completed two business days after the transaction.

### What products can be traded in the OTC market?

The range of products available OTC is far richer than in centralized markets:

**Stocks**: Stocks of small to medium-sized companies and startups not listed on main exchanges can be traded here. Compared to on-exchange trading, which only accepts listed companies, the OTC market provides financing channels for more emerging firms.

**Bonds**: Large-issue bonds with infrequent trading are more suitable for OTC, better meeting the diverse needs of issuers and investors.

**Financial Derivatives**: Options, futures, CFDs, and similar contracts are common in OTC trading.

**Foreign Exchange**: Currency trading on various platforms is inherently OTC.

**Cryptocurrencies**: Popular digital assets can be purchased in large one-time transactions OTC, which is difficult to achieve in dedicated crypto markets.

### OTC Trading vs. On-Exchange Trading: Key Differences

| Item | On-Exchange Trading (Centralized Market) | OTC Trading (Over-the-Counter) |
|------|----------------------------------------|------------------------------|
| Product Standardization | Standardized | Non-standardized |
| Trading Mode | Auction-based | Negotiation-based |
| Trading Venue | Regulated Exchange | No centralized venue, dispersed |
| Main Products | Standard securities, bonds, futures | Derivatives, forex, unlisted stocks |
| Regulation Level | Strict | Relatively lenient |
| Transparency | Open and transparent | Not necessarily public |
| Liquidity | Higher | Lower |
| Trading Methods | Restricted | More options |

The biggest difference lies in **product standardization**. On-exchange trading is like buying gold from a bank—each unit is uniform; OTC trading is like pawnbroking—each transaction may have different terms. This allows OTC markets to offer more diverse investment options.

**Trading mode differences** determine profit potential. On-exchange trading emphasizes transparency and fairness but limits profit margins. OTC trading involves direct negotiation, where information can be more valuable than capital—investors with more market insight may secure better prices.

**Regulatory differences** create a trade-off between flexibility and risk. On-exchange markets are approved and regulated by government authorities, while OTC markets are operated by individual brokerages with less oversight. This means OTC markets have more room for custom rules but also pose risks of scams, such as fake exchanges set up by malicious actors.

### Development background of Taiwan’s OTC market

Taiwan’s stock market is divided into two tiers: the “Stock Exchange” and the “Gretai Center” (OTC). This separation aims to balance market development—listing requirements are higher to ensure quality, but overly strict regulations can hinder startup growth.

To address this, the government established the Gretai Center and relaxed OTC listing conditions. Companies only need recommendations from two or more qualified brokers to list, and if their performance improves within six months, they can apply to transfer to the main exchange. This opens financing opportunities for many promising but underfunded companies.

However, lowering the entry barriers has also attracted some speculators. Many companies vary in quality, and some unscrupulous brokers may recommend high-risk targets for quick profits. Investors should be especially cautious, carefully selecting quality targets and reputable brokers.

### Advantages of OTC Over-the-Counter Trading

**Broader Investment Options**: OTC markets help investors access asset classes unavailable in traditional exchanges, including derivatives, non-standardized products, and unlisted company shares.

**Flexible Trading Methods**: Product specifications and trading conditions can be customized according to investment goals, providing more room for negotiation.

**Leverage Flexibility**: Traditional markets have limited and regulated leverage options, while OTC offers various leverage ratios, allowing investors to adjust based on risk appetite.

**Positive Market Development Trends**: With the growth of the internet, OTC trading volume continues to expand. Modern OTC markets have established multiple safety mechanisms, approaching the risk control levels of centralized markets.

### Risks of OTC Over-the-Counter Trading

**Lack of Unified Regulation**: OTC markets lack standardized rules and mandatory transparency requirements, making legal enforcement weaker. Many companies and securities that do not meet centralized market listing criteria can only trade OTC, limiting investor access to full information disclosure.

**Insufficient Liquidity**: OTC trading volumes are much smaller than centralized markets, which may result in difficulty finding buyers or requiring lower prices when selling.

**Market Volatility**: OTC stocks are often small to medium-sized enterprises, susceptible to news and market sentiment, leading to larger price swings. Investors may face information asymmetry due to the lack of transparent market data.

**Counterparty Credit Risk**: Since transactions are negotiated directly, if the counterparty has poor credit or suddenly defaults, investors could suffer losses.

### How to ensure OTC trading safety?

Although OTC trading involves risks, it is not inherently unsafe. The key is to adopt proper precautions:

**Choose Regulated Brokers**: Prioritize platforms with multiple international licenses and strong risk management. Verify if the broker implements KYC, risk assessment, complaint handling, and other protective measures.

**Focus on Mature Trading Products**: Prefer market-recognized assets with relatively good liquidity (e.g., mainstream forex pairs). Understand operational details such as spreads, liquidity, and withdrawal mechanisms.

**Stay Informed**: Learn trading knowledge actively, follow industry news, and avoid blindly following trends. In OTC markets with information asymmetry, knowledge is the best protection.

**Use Risk Management Tools**: Employ limit orders, stop-loss orders, and other features to limit potential losses. Adjust position sizes according to your risk tolerance.

### Who is OTC suitable for?

OTC trading is not suitable for all investors. If you are a beginner, it’s recommended to first gain experience in centralized markets and familiarize yourself with basic investment logic and risk management.

For more advanced investors who are optimistic about specific small companies, need derivatives for hedging, or want to utilize more flexible leverage for strategic positioning, OTC markets may offer the tools and opportunities you need. But remember: before entering OTC, choosing a trustworthy platform and broker is the first step. Understanding what OTC is, how it works, and its potential risks is essential preparation.

The essence of OTC trading is decentralization—this offers flexibility but also responsibility. Investors need greater self-protection awareness and market knowledge to profit from it.