Market over the counter (OTC)

economic-dictionary

An over the counter (OTC) market is a secondary or trading market that has no regulation where investors bilaterally agree on their transactions through netting and collateral agreements with the counterparty.

Therefore, in this market there is no supervision of a clearing house, since it does not exist, but this market is governed by a framework agreement or through the contract model for financial operations known as ISDA.

In OTC markets, even when there may be procedural agreements, there is no clearing and settlement body that mediates between the parties and guarantees compliance with the obligations agreed upon by them.

Generally, in operations in OTC markets, the guarantees required in the event that it is requested by the counterparty, which will generally be a market maker (in most cases it is a financial institution), will be much lower than the market. That is why there are many criticisms of this market model, since there may be conflicts of interest on the part of brokers or market makers, because the commissions are implicit in the price or in the spread, and this leads to that the investor does not know what he is paying for the operation.

These types of operations are very difficult to value, it must be taken into account that the contracts are made to measure for each operation (Operation with Forward) or client (micro contracts in CFDs).

The Dodd Frank Law in the US is trying to change this deregulation by establishing that all contracts in the OTC market are subject to supervision by the entities designated by the regulator. Specifically speaking, in the US there are many companies in the OTC market with very little liquidity and manipulated in the price in which many investors fall without being able to liquidate their operations.

Types of products traded on OTC markets

The OTC market has grown exponentially in the last 20 years. Furthermore, the concentration of this type of product is in the hands of very few banks. For example, the US has 90% control of this market, on the other hand, in London it already represents 70% of the transactions carried out

The most traded products in OTC markets are the following:

  • CFDs (Contract for Differences).
  • Warrants.
  • Turbo Warrants.
  • Swaps and CDS (Credit Default Swaps).
  • Binary Options.
  • Currency or Forex.

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