## Understanding OTC Trading: Mechanisms and Characteristics of the OTC Market

When investors discover a promising company that cannot be found on the main board, or wish to participate in more flexible trading products, over-the-counter (OTC) trading becomes an important option. What is the OTC market? How does it operate? How does it differ from centralized exchanges? This article will provide a comprehensive understanding of OTC trading features, risks, and opportunities.

## Basic Concepts of OTC Market

**OTC** (Over The Counter) is short for "over-the-counter" trading, also known as "off-exchange trading" or "over-the-counter deals." In simple terms, it refers to a trading method where investors do not trade on formal exchanges but directly buy and sell various financial instruments through banks, brokers, phone, or electronic systems with trading counterparts.

In the OTC market, prices are not determined by a centralized market auction but are negotiated directly between buyers and sellers. The trading counterparts are highly diverse—potentially including banks, brokers, corporations, or individual investors. Many small and medium-sized enterprises, startups, and companies that do not meet the listing requirements of the main board conduct equity transactions OTC. Additionally, even companies qualified for listing may choose OTC trading to avoid excessive disclosure and regulatory costs.

With the proliferation of the internet and the expansion of financial markets, investors' demand for trading convenience has increased, leading to rapid growth in the OTC market size. Compared to the strict rules of on-exchange trading, OTC markets operate under a more relaxed regulatory framework, offering non-standardized, customizable trading products, allowing more investors to find suitable trading methods.

## Main Trading Products in the OTC Market

OTC trading covers a wide variety of products, far beyond those available on exchanges:

**Stocks**
The OTC stock market is the largest investment sector. Besides stocks listed on centralized exchanges, it also includes unlisted, smaller-scale, or startup company stocks. These companies may not yet meet listing criteria but still hold investment value.

**Bonds**
Bonds are issued in large quantities and come in many varieties, but trading frequency is relatively low. The OTC market is often more suitable for bond trading, providing greater flexibility.

**Derivatives**
Contracts such as options, futures, and spreads can all be traded OTC.

**Foreign Exchange**
Currency trading on major platforms is essentially OTC trading.

**Cryptocurrencies**
Popular cryptocurrencies can be traded OTC, and large digital asset purchases can be executed in one go—something difficult to achieve on dedicated crypto exchanges.

## How the OTC Market in Taiwan Operates

Taiwan's stock market is divided into two main systems: the "Stock Exchange" and the "OTC Securities Exchange" (GTSM). To address the restrictive listing requirements for emerging companies, the government established the GTSM, lowering the listing threshold—companies recommended by at least two brokerage firms can enter the OTC market. If a company shows performance improvements within six months (such as profit turnaround or significant operational enhancement), it can apply to transfer to the main or OTC market.

**Specific OTC Trading Process**

1. **Investors place orders through brokers** — The process of buying or selling OTC stocks is identical to trading listed stocks.

2. **Order transmission to the automated matching system** — Brokers upload orders to the GTSM's Automated Trading System (ATS), which matches trades based on "price priority, time priority."

3. **Trade execution and settlement** — The entire process follows the same technical rules as listed markets, with T+2 settlement (settlement occurs two business days after the trade).

**OTC Trading Hours and Rules**

| Session | Time |
|---------|-------|
| Pre-market | 08:30–09:00 |
| Normal trading | 09:00–13:30 |
| Post-market pricing | 13:40–14:30 |

**Trading Rules Highlights**
- Price aggregation every 5 seconds
- Price fluctuation limit: ±10% (same as listed markets)
- Has a matching trade mechanism
- Information disclosure is relatively transparent, requiring quarterly, annual reports, and major news disclosures

Since the GTSM has relatively low entry barriers, it is easy for companies with good prospects to enter, but also for less reputable firms to participate. There are even cases of unscrupulous brokers recommending high-risk targets for personal gain. Therefore, investors should carefully select targets and choose reputable brokers.

## Differences Between On-Exchange and OTC Trading: Seven Key Points

On-exchange (centralized exchange) and OTC trading each have their characteristics. Understanding these differences helps make better investment decisions:

| Aspect | On-Exchange Trading | OTC Trading |
|---------|---------------------|--------------|
| **Product Specifications** | Standardized | Non-standardized, customizable |
| **Trading Mode** | Auction-based | Negotiation-based |
| **Trading Venue** | Centralized exchange | No centralized venue, dispersed trading |
| **Main Products** | Standard securities, bonds, futures, funds | Derivatives, forex, unlisted stocks, CFDs |
| **Regulatory Oversight** | Strict government regulation | Relatively relaxed regulation |
| **Trading Transparency** | Price and volume publicly available | Not necessarily disclosed |
| **Liquidity** | High | Relatively low |

**① Product and Specifications**
On-exchange products must be standardized (e.g., gold trading at banks with uniform specifications), whereas OTC is like pawnshops—each trade may have different terms. This flexibility allows OTC to trade a wider variety of products.

**② Trading Mode**
On-exchange trading uses auction, which is transparent but offers limited profit margins. OTC allows buyers and sellers to negotiate freely, where "information is more important than capital"—investors with market insight can seize more opportunities.

**③ Main Products**
On-exchange mainly involves standardized securities and futures. OTC includes forex, cryptocurrencies, unlisted stocks, and other diverse products, as there are no market size restrictions.

**④ Platforms and Regulation**
On-exchange platforms are government-approved and regulated; OTC markets are operated by brokers with varying levels of oversight. Investors must verify whether the platform has proper regulatory licenses to avoid scams.

**⑤ Trading Transparency**
On-exchange trades are fully transparent, with all details public. OTC markets are not always required to disclose information, creating an information gap—experienced traders may profit, while inexperienced ones may suffer losses.

**⑥ Trading Volume and Liquidity**
On-exchange trading attracts large capital due to strict regulation and safety, resulting in high liquidity. OTC trading volume is smaller, with lower liquidity, which may affect trade prices.

**⑦ Trading Methods**
On-exchange trading has strict risk controls, with leverage and short-selling restrictions. OTC trading has fewer restrictions, allowing investors to use higher leverage and more flexible strategies.

## Advantages of OTC Trading

✔️ **More Investment Options** — Access to derivatives, binary options, CFDs, forex, and other products rarely available in traditional markets, broadening choices

✔️ **Greater Trading Flexibility** — Product specifications and trading methods can be customized to suit individual investment goals

✔️ **High Leverage Flexibility** — Compared to low leverage limits in traditional markets, OTC offers more options, enabling higher leverage to amplify returns

✔️ **Gradually Improving Security Mechanisms** — Legitimate OTC platforms establish multiple security layers similar to centralized markets, including risk assessment, KYC verification, complaint mechanisms, etc.

## Risks and Challenges of OTC Trading

❌ **Lack of Unified Regulation** — OTC markets lack uniform rules, with a loose regulatory framework that can foster fraudulent brokers. Many companies that do not meet exchange standards can only operate OTC, exposing investors to regulatory risks.

❌ **Insufficient Liquidity** — OTC securities generally have lower liquidity than centralized exchanges, making it difficult to sell at desired prices.

❌ **Market Risks** — Although market volatility is similar to stocks, OTC investors often lack the transparent information available on exchanges, making decision-making more difficult.

❌ **Credit Risks** — Due to diverse trading counterparts, both buyers and sellers face credit risk from counterparties.

❌ **Price Manipulation Risks** — Some products experience sharp price swings and low liquidity; there are also malicious actors who manipulate prices with false information to deceive investors.

## Is OTC Trading Safe? How to Reduce Risks

Not all OTC trading is unsafe. Compared to on-exchange trading, OTC indeed carries higher risks, but these can be managed. To ensure OTC trading safety, investors should take the following measures:

**Ensure the Broker is Reputable**
Choose platforms regulated by multiple authorities with strong risk controls. Legitimate platforms should have government licenses (e.g., from Australian, Cayman, Mauritius financial regulators).

**Select Mature Trading Products**
For example, forex and mainstream cryptocurrencies are well-developed. Understand key info such as spreads, liquidity, withdrawal policies, and conduct comprehensive assessments.

**Use Risk Management Tools**
Reputable OTC platforms offer tools like limit orders, stop-loss, and negative balance protection. Investors should learn to use these effectively.

**Perform Identity Verification and Risk Assessment**
Legitimate platforms conduct KYC and risk assessments, which are crucial mechanisms to protect investors.

**Monitor Market News and Regulatory Updates**
Stay informed about the latest developments of trading products, and pay attention to alerts from financial regulators to identify risks promptly.

## When to Choose OTC Trading

OTC trading is suitable for:
- Venture capitalists seeking to invest in unlisted company equity
- Investors needing to trade derivatives, forex, cryptocurrencies, and other diverse products
- Advanced investors requiring high leverage and flexible strategies
- Large-volume traders seeking customized trading conditions

However, it is also important to recognize that OTC trading requires higher market knowledge, risk awareness, and cautious selection of legitimate platforms.

## Conclusion

The OTC market opens broader opportunities for investors, offering diverse products, flexible trading, and high leverage. However, it also involves higher risks and lower regulatory protections. The key to successful OTC participation lies in choosing reputable trading platforms, carefully selecting investment targets, mastering risk management tools, and continuously enhancing market knowledge and decision-making skills. When these conditions are met, OTC trading can be a powerful supplement to your investment portfolio.