What are OTC stocks? It stands for (over the counter). They are also known as “pink sheets.” These are called “penny stocks” and are alluring to novice traders. They offer you the opportunity to turn a small investment into a potential fortune if the company is highly successful. However, they aren’t without their risks. They are not as regulated as the penny stocks on major exchanges. If you’re curious about these elusive stocks, you will want to watch this video.
Table of Contents
- What Are OTC Stocks? Introduction
- Does Technical Analysis Work With Penny Stocks?
- Are OTC Stocks Safe?
- Are OTC Stocks Hard to Sell?
What Are OTC Stocks? Introduction
Many new traders want to know what OTC stocks are before they trade them. The main thing to know is that OTC stocks are not sold on the major stock exchanges. They are not listed on these exchanges because they don’t meet the qualifications.
They are not “good enough” to make the standards. That said, they’re prone to pumping and dumping, lack of volume, and occasional volatility spikes up…or down. Because they behave this way, you NEED to know how to trade them safely.
Typical Way to Purchase OTC Stocks
Most of us assume when we buy a stock is from a centralized/formal exchange like the NYSE (New York Stock Exchange) or the TSX (Toronto Stock Exchange). And, for the most part, you’re right.
A centralized market has all its orders routed through one central exchange with no other competing market.
In this type of setup, the quoted price is the only price available to any trader looking to buy or sell. Now, the benefits of this setup might not be immediately apparent, but they are vast.
In simple terms, a centralized market is good because it keeps trades fair. Furthermore, the price action tends to be more predictable because there is no competing price model for the individual stock.
Not only are they fair, but they are also highly regulated. Most of these centralized exchanges have licenses and are run under government regulations. This is a more “safe space” for traders to trade in.
This gives the trader peace of mind if something goes wrong. To this end, trading on a centralized exchange is the preferred choice for many.
Less Common Way to Buy OTC Stocks
What about doji candlesticks? Those show indecision. Different kinds of doji candles can give you different information. If you saw a doji forming on the daily chart of a penny stock, how would you trade it?
The real bodies and wicks of candlesticks form key levels of support and resistance. Support and resistance are other foundational aspects of trading.
They are levels every single trader pays attention to. If someone is telling you it doesn’t matter in penny stocks, you should take a good, hard look at why they’re saying that.
Does Technical Analysis Work With Penny Stocks?
Now I know what you are thinking…we aren’t talking about Bitcoin or blockchain when we refer to a decentralized exchange. As mentioned earlier, OTC securities do not meet the requirements for listing on a standard market exchange like the NYSE.
So, instead of trading on the centralized exchange, OTC stocks are traded through a broker-dealer network. Over-the-counter (OTC) is used for trading stocks for companies not listed on a formal exchange—the broker-dealer acts as an order matchmaking service to facilitate the buy or sell orders.
Over the Counter Bulletin Board (OTCBB)
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Are OTC Stocks Safe?
As we learn the answer to OTC stocks, we must ask if they’re safe. Typically, they’re high-risk micro stocks. And they’re high risk because they’re not subject to regulations.
In other words, they’re like the Wild West of trading. That doesn’t mean you can’t trade OTC stocks, however. It would be best if you were precise in how you trade them. Check out our penny stock trading strategies course.
Characteristics of OTC Stocks
Stocks that trade OTC are typically smaller and developing companies that cannot meet the exchange listing requirements of formal exchanges.
Depending on the platform they’re listed with, they may also submit reports to the Securities and Exchange Commission (SEC) regulators.
The Risks of OTC Stocks
Any major exchange requires full transparency, including all financial dealings. Mostly, the stock must remain over $1.00 per share.
Those companies unwilling to play by the rules – perhaps in bankruptcy filings, will often trade on the OTC market. For these reasons, it comes as no surprise they are easily subjected to corruption.
Another downside of OTC stocks is their lack of liquidity, which makes them far more susceptible to manipulation. Henceforth, they can be dangerous to trade.
They aren’t listed on centralized exchanges and don’t have to follow strict rules and regulations.
Companies on Decentralized Exchanges
Some companies go the OTC route because they can’t afford the steep price tag to list on the NYSE – $500,000.
The Nasdaq is a tad bit more digestible at $75,000. However, the entry fees are a barrier to entry. Furthermore, these exchanges have strict entry criteria that some companies can’t or don’t want to meet.
However, some large and reputable companies trade on the OTC market. Take, for example, the well-known companies Nestle SA, Bayer A.G., and Danone SA. All of these companies trade on the OTCQZ platform.
Some of the OTC Stocks Markets
- Best Market (OTCQX)
- Venture Market (OTCQB)
- Pink Open Market
In case you didn’t know, the OTC Markets Group owns and operates all three. They are the largest U.S. inter-dealer electronic quotation and trading system for over 10,000 OTC securities.
Although these securities aren’t listed on formal exchanges, they have requirements. For example, the OTCQX doesn’t list stocks under five dollars, shell companies, or companies going through bankruptcy.
We typically see shares of large market cap companies on the OTCQX Best Market.
Are OTC Stocks Hard to Sell?
You’ve heard of bag-holding. That typically occurs because of a problem with liquidity. As a result, that makes OTC stocks hard to sell. The bid-ask becomes so spread out that you can’t find buyers to fill your sell orders. Then you’re left holding the bag, hoping and waiting for volume and liquidity to return.
The Pink Sheets
Another trading platform is the Pink Sheets. These stocks usually have a suffix of “PK” and don’t have to file financial statements with the SEC.
Typically, stocks wind up here due to their failure to meet the SEC requirements for listing on larger stock exchanges (i.e., the lack of financial information or their stock price falling below one dollar).
While buying shares of this nature may involve lesser transaction costs, they are prime for price manipulation and fraud.
Unfortunately for investors, but perhaps fortunately for company owners, pink-sheet listed companies are private and have no oversight or regulation.
You’re out of luck if you want to know their detailed financial information and business data. Investors are in the dark, and this is where the risk comes in. As a rule, we like to check Stock Rover before making stock investments. If the fundamental data looks poor, we look elsewhere.
Pros of the OTC Market
- You can access securities not available on standard exchanges, such as bonds, ADRs, and derivatives.
- Less regulation allows many companies who can not, or choose not to, list on other exchanges the ability to trade stock.
- You have the potential for significant returns on low-cost, penny stocks, especially during news catalysts. Retail traders trade them, which can make them very volatile.
Risks of the OTC Market
- Low liquidity and inability to sell shares at a desirable price.
- Less regulation and a higher possibility of fraud with pink sheet listed stocks.
- OTC stocks are volatile and vulnerable to rapid moves with the market release and economic data.
- Huge bid-ask spreads make it harder to trade profitably due to slippage.
Good to Know Facts
- The over-the-counter (OTC) market is decentralized, where securities not listed on major exchanges are traded directly by a network of dealers.
- Dealer networks are utilized for trading over-the-counter securities instead of a centralized exchange.
- You can trade OTC stocks through a full-service broker or with some select discount online brokerages. We recommend TradeStation.
- Some companies raise capital through the sale of OTC stocks.
- Although Nasdaq operates as a dealer network, Nasdaq stocks are generally not classified as OTC because the Nasdaq is considered a stock exchange.
- Pink sheet stocks are usually small penny stocks, which are stocks that trade for less than five dollars per share.
The most important lesson you can learn from this blog is that you must be careful in choosing the stocks you trade.
If you’re serious about learning how the stock market works, you must invest time and effort. By practicing diligently and honing your technique–making money from day trading is within grasp. Here at the Bullish Bears, we prefer trading stocks off our stocks list, but that won’t stop us from trading an OTC now and again. Of course, everything we do must be under the right conditions to place a trade.
Profits can and will come with practice, tools, software, and ongoing education.
Now is as good a time as ever to get started. Let us show you how to choose the right stocks and protect yourself from worthless companies with our trading courses.