What are the 3 Top Risks When Trading OTC Markets?

A market, which had gone really wild for the past several years, is the OTC or Over the Counter markets. These markets are for stocks which do not qualify for the requirements to be listed in major exchanges such as NYSE or NASDAQ.

Even with the risks, a lot of traders and investors are still lured to trade cheap stocks, trading as small as under a dollar where it is riskiest, the penny stocks.

Over the Counter market is a very tricky scene for trading. Read on and we will provide you the top risks in the OTC market!

OTC Markets: What Are They?

Various security dealers have created a network for trading shares in the OTC market.

Companies with securities are purchased for lesser requirements and usually new and unlisted companies which want to gain funds for their capital. They are a lot different from formal markets such as NYSE.

Moreover, dealers operate with much easier rules of regulatory scrutiny and conduct. The final product is a market that enables buy and sell of securities without too much structure and safety from where formal markets are established.

Since the rules and regulations are laxer, OTC stocks have now become a place for pump and ump schemes costing investors several million dollars. This is why it is highly suggested for newbie traders not to engage in it and put their minds into cheaper listed securities.

So, what are the major risks when trading in over the counter markets? These are the ones we will cover:

  • Company Transparency
  • Market Capitalization
  • Light Volume, Large Spreads

Company Transparency

Reporting standards for OTC market is a little less stringent so companies can be a little more opaque than traders, in trading listed shared in formal markets.

It can be hard to identify the right price from companies with less public and less verifiable information. Companies have incentive to flex the rules depending on what favors them.

What happens is there is a risk for traders to have bad decisions or push their trades after seeing false information requiring more informal means in estimating value of companies.

A lot of cases were found that companies mislead investors in the OTC scene with false details and shady deals. Companies release different info in OTC, but you need to choose what you need to trust or you’ll risk a lot of money.

At the end of the day, you need to have a strong heart in investing in a company basing on its fundamentals when trading in the OTC markets.

Low Market Capitalization

Manipulation and pump and dump schemes can happen all the time since generally much-lower company value traded in OTC makes them vulnerable.

Large market capitalization is used in companies in formal exchanges so there are few investors able to affect the stock price significantly by trading.

On the other hand, OTC markets have many stocks changing prices dramatically after small trading volume is completed; this implies that anyone with a big account can manipulate the stock prices.

Pump and dumps occur when traders or a group of traders try to pile up on a certain stock and then hype it on forums or in social media, luring traders to go at it and provide sufficient liquidity for original purchasers to dump it when the price goes up, pushing prices even smaller. Unsuspected investor ends up holding the entire pot.

Understanding why a certain stock price is changing is essential before trading, especially in OTC market.

Light Volume and Wide Spreads

Trading volume in OTC stocks is a lot less lighter and less competitive when you compare them to listed stocks. Getting fills at good price can be a lot harder and It can be very difficult to leave a position, resulting to really big losses.

Low-liquidity OTC trading required understanding when letting orders and traders in to prevent market orders in any means possible. A profitable trade can be ruined by slippage.

Benefits and Disadvantages of OTC Markets

OTC markets have a different type of structure, which implies several advantages and disadvantages for traders.

Traders entering OTC markets expecting the rules and policies are the same with formal markets usually have a hard time, however savvy traders with the understanding of the nature of OTC markets generally profits from inadequacies shown in OTC.

Conclusion

Lessen the risks and trade lighter, especially in OTC markets. It is not recommended to trade in such due to lack of transparency and low-liquidity assets. Several low priced stocks listed in the major exchanges have huge upsides and potential to earn you profit.

Do not be lured in a scheme that almost looks like you can win the lottery trading cheap stocks. In general, such schemes are scam.

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