Over-the-Counter Trading Full Analysis | OTC Market Operation Mechanisms, Risks, and Opportunities

Why Are Investors Turning to OTC Trading?

When seasoned investors seek growth potential targets, they often face a dilemma—many quality companies are not listed on mainstream exchanges. At this point, OTC trading becomes the key to unlocking new investment opportunities. Rather than viewing OTC trading as an alternative, it is better to see it as a necessary supplement to formal financial markets.

The reason OTC markets attract investors is because they offer flexibility that is difficult to achieve on standard exchanges—customizable trade sizes, a wider variety of products, and more negotiable trading terms. Although they lack the regulatory protections of centralized exchanges, with proper strategies, investors may actually achieve higher returns.

Core Definition of OTC Trading

OTC stands for Over The Counter, referring to transactions where investors bypass centralized markets like stock exchanges and instead conduct buying and selling directly through banks, brokerages, phone, or electronic systems. This type of market is also called “over-the-counter,” “off-exchange trading,” or “OTC market.”

Unlike centralized markets where prices are determined by automated matching systems, OTC prices are negotiated directly between buyers and sellers. The counterparties are diverse—banks, brokerages, corporations, or individual investors—and the process is more flexible but less transparent.

Companies that can be OTC-listed generally fall into two categories: one, small to medium enterprises or startups that do not meet listing requirements; two, companies with listing eligibility that choose OTC trading to avoid excessive information disclosure and competitive pressure.

In recent years, the development of the internet has accelerated the expansion of OTC markets. Under relatively relaxed regulatory environments, traders offer more flexible products and customized services. The demand for trading convenience continues to grow, leading to rapid OTC market expansion. However, this looser regulation also brings concerns—low price transparency, lack of strict disclosure requirements, and counterparty credit risks.

What Investment Products Are Covered in OTC Trading?

The product range in OTC markets far exceeds common perceptions. Besides stocks and bonds, derivatives trading is also mainstream:

Stocks: While still the largest investment area in OTC markets, OTC stocks include shares of unlisted small and medium enterprises and startups, which often lack listing qualifications or have not applied for listing.

Bonds: Due to the large issuance volume, variety, but low trading frequency, OTC markets are actually more suitable for bond liquidity than exchange markets.

Derivatives: Contracts such as options, futures, and spreads are all traded OTC.

Foreign Exchange: Currency trading on various platforms is essentially OTC trading.

Cryptocurrencies: Popular virtual assets can be traded in large blocks OTC, which is difficult to achieve on professional crypto exchanges.

The biggest advantage of OTC trading is its ability to meet large-scale and customized needs—investors can purchase large amounts of cryptocurrencies or conduct structured trades that are impossible on standardized exchanges.

Operation and Mechanism of Taiwan’s OTC Market

Taiwan’s stock market is divided into two tiers: the “Stock Exchange” and the “OTC Market” (Gretai). The OTC index (also called the OTC Composite Index) reflects the performance of Taiwan’s OTC stock market, serving as a benchmark for many investors to gauge the trend of small and medium stocks.

This two-tier market design is reasonable—listed companies must meet higher thresholds to maintain market quality, but overly strict regulations can hinder promising companies’ development. To address this, the government established the OTC center and lowered listing requirements—companies only need to be recommended by more than two qualified brokerages to list. If they demonstrate improved performance or financial health within six months, they can apply to transfer to the main or emerging boards.

This policy has a double-edged effect: besides genuine high-quality companies in need of capital, it also attracts many less reputable firms. Market scams, such as “pink sheet” trading chaos, have emerged, with unscrupulous brokers promoting high-risk targets to profit from investors’ losses. Therefore, when participating in OTC markets, investors must not only choose the right targets but also select reputable brokers.

The Actual Process of OTC Trading

The operation mechanism of Taiwan’s OTC market is similar to that of the listing market, with main differences in company size and listing standards:

Step 1: Investors place orders through brokerages, identical to purchasing listed stocks.

Step 2: The order is transmitted to the OTC center’s automatic matching system (ATS). ATS matches buy and sell orders based on “price priority, time priority,” operating logic similar to the main market, requiring no additional steps.

Trading hours and auction rules:

A call auction occurs every 5 seconds (both for listed and OTC stocks).

Trading rules are fully consistent:

• Price limits (±10%)
• Auction-based matching
• Daily trading time limits
• T+2 settlement system

OTC-listed companies must comply with disclosure regulations (quarterly reports, annual reports, major news), making OTC stocks more transparent than emerging stocks, providing investors with relatively sufficient information.

Overall, OTC markets mainly involve small to medium, growth-oriented companies, with higher volatility but more attractive themes and growth potential. Since liquidity is better than emerging markets and the system is similar to the main market, general investors face no high participation barriers. However, due to smaller company sizes, they are more susceptible to news and market sentiment, requiring careful attention to price fluctuations.

The Fundamental Difference Between On-Exchange and OTC Trading

The core purpose of on-exchange trading is to set “standards,” so compared to the rule-based, regulated on-exchange markets, OTC trading is closer to the original economic principle of supply and demand. The main differences are as follows:

Product Standardization Differences

On-exchange trading features standardized transaction specifications—each trade follows the same format; OTC trading is highly non-standardized. For example, gold trading: on-exchange is like going to a bank—each branch follows the same rules; OTC is like going to a pawnshop—each has different conditions. Pawnshops, though more complex, offer a wider variety of products and are more irreplaceable compared to banks.

Fundamental Differences in Trading Modes

On-exchange uses auction matching, OTC relies on negotiated prices. The advantage of on-exchange is transparency and relative fairness; the downside is limited profit margins. OTC has no transparency restrictions—buyers and sellers negotiate directly. Because there’s no need for public disclosure, even if someone offers a higher price, it doesn’t guarantee a purchase—in OTC markets, information is more important than capital.

Product Variety Differences

On-exchange mainly involves standardized securities and futures; OTC products include forex, cryptocurrencies, unlisted stocks, etc. Due to the need for standardization and sufficient market scale, product variety on exchanges is limited; OTC markets are extremely diverse.

Regulatory System Differences

On-exchange markets are approved and fully regulated by the government; OTC markets are operated by general brokerages and only partially regulated. OTC trading does not necessarily need to be conducted on government-approved exchanges, making it easier for fraudsters to set up fake exchanges. Investors must choose regulated, government-approved platforms to ensure safety.

Transparency and Information Gap

Exchanges publicly disclose all transaction prices and volumes; OTC markets do not necessarily do so. Since regulators do not mandate full disclosure, OTC markets have significant information asymmetry—experienced traders can profit from this, while inexperienced investors risk substantial losses.

Liquidity and Trading Volume

Exchanges have large trading volumes and high liquidity; OTC markets have lower volumes and less liquidity. Due to effective regulation, exchange trading is relatively safe regardless of investor familiarity, attracting international capital and resulting in larger trading volumes.

Flexibility of Trading Methods

Exchange trading methods are more limited; OTC markets offer multiple trading options. Strict risk controls on exchanges restrict leverage and short-selling; OTC allows more flexible strategies.

Opportunities and Risks of OTC Trading

Advantages of OTC Trading

✔️ Broader Investment Choices: OTC trading enables access to derivatives, binary options, CFDs, forex, and more, offering market opportunities far beyond those on exchanges.

✔️ More Flexible Trading Methods: Products and trading methods can be customized, allowing investors to adjust structures according to their goals.

✔️ Leverage Flexibility: Traditional markets have limited leverage options; OTC provides more choices, enabling higher leverage to amplify gains (also increasing risks).

✔️ Gradual Security Improvements: Modern OTC markets have adopted multi-layered security mechanisms similar to centralized markets. Some reputable brokers are authorized and regulated by well-known financial institutions, offering more professional services. Educated investors can trade OTC markets with confidence.

Risks and Concerns of OTC Trading

❌ Weaker Regulation: OTC markets lack unified rules, transparency is limited, and legal oversight is relatively lax. Many fraudulent brokers operate here, while listed companies and securities must follow strict regulations. Many non-compliant companies can only be traded OTC.

❌ Liquidity Risk: OTC securities have lower liquidity than centralized exchanges, making it harder for investors to exit at desired prices.

❌ Market Risk Higher Than On-Exchange: Similar to stock markets, OTC trading is affected by market volatility. Due to less transparent information, most investors have limited market insights, increasing decision risks.

❌ Credit and Scam Risks: Since buyers and sellers trade directly, there is exposure to counterparty credit risk. There are also malicious actors using false information to deceive investors.

Is OTC Trading Truly Safe?

Does the lack of exchange regulation necessarily mean OTC trading is unsafe? Not necessarily.

Compared to centralized exchanges, OTC trading indeed carries higher risks. OTC markets lack unified rules, and operations depend on buyer-seller negotiations—sellers may offer different prices to different buyers. This exposes traders to counterparty credit risks, and some products may have large price swings and low liquidity. There are indeed scammers exploiting false information.

However, investors can take measures to reduce risks:

First, choose reputable brokers: Ensure brokers are regulated at various levels and have strong risk management capabilities. Legitimate platforms implement investor protections—risk assessments, KYC procedures, complaint mechanisms—that help mitigate trading risks.

Second, select mature trading products: Fully understand details such as spreads, liquidity, withdrawal procedures for established products like forex and cryptocurrencies before trading.

Third, enhance risk awareness: Ordinary investors should recognize that OTC trading is fundamentally an “information game.” Having comprehensive information, understanding market dynamics, and assessing counterparty creditworthiness are more important than blindly following trends.

OTC trading is not inherently unsafe; its risk structure is different. The key lies in whether investors possess sufficient knowledge and judgment, and whether they choose reputable trading platforms. With these elements in place, OTC trading can be a powerful tool to achieve investment goals.