A:

The process of purchasing over-the-counter (OTC) stocks is different than purchasing stock from companies on the NYSE and the NASDAQ. The major difference is that OTC securities are unlisted, so there is no central exchange for the market. All orders of OTC securities must be made through market makers who, instead of just matching orders, actually carry an inventory of securities to facilitate trading.

The first step an investor must make before they can trade in OTC securities is to open an account with a brokerage firm. An investor can choose from either a discount broker or a full-service broker to invest. However, investors should be aware that not all brokers allow trading in OTC securities. An investor's broker will work with the applicable market maker to ensure that the transaction process is completed successfully.

Here is an example of the steps that are taken when an investor makes a market buy order for an OTC stock. After the investor places the market order with his or her broker, the broker must now contact the security's respective market maker. The market maker then will quote the broker the ask price that the market maker is willing to sell the security at. Bid and ask quotes can be monitored constantly by an investor through the Over-The-Counter Bulletin Board (OTCBB).

Since the order was a market order the broker must accept the price quoted. The broker, then, will transfer the necessary funds to the market maker's account and is subsequently credited with the respective securities. If the investor wishes to do so they can place limit or stop orders for OTC securities in order to implement price limits. A similar process is carried out when an investor decides to sell an OTC security.

Although investing in OTC securities seems very simple, they are riskier than stocks listed on exchanges. OTC stocks are often from companies that are extremely small, with markets caps around $50 million or smaller. These companies offer very little information, which may be difficult to find, and they are extremely illiquid which can make it hard to find a buyer.

To learn more see, The Dirt On Delisting, Getting to Know Stock Exchanges and The Lowdown on Penny Stocks.

RELATED FAQS
  1. What is a stock split? Why do stocks split?

    All publicly-traded companies have a set number of shares that are outstanding on the stock market. A stock split is a decision ... Read Full Answer >>
  2. Is there a difference between financial spread betting and arbitrage?

    Financial spread betting is a type of speculation that involves a highly leveraged derivative product, whereas arbitrage ... Read Full Answer >>
  3. How do I place an order to buy or sell shares?

    It is easy to get started buying and selling stocks, especially with the advancements in online trading since the turn of ... Read Full Answer >>
  4. What does a high turnover ratio signify for an investment fund?

    If an investment fund has a high turnover ratio, it indicates it replaces most or all of its holdings over a one-year period. ... Read Full Answer >>
  5. How does a forward contract differ from a call option?

    Forward contracts and call options are different financial instruments that allow two parties to purchase or sell assets ... Read Full Answer >>
  6. What is the difference between passive and active asset management?

    Asset management utilizes two main investment strategies that can be used to generate returns: active asset management and ... Read Full Answer >>
Related Articles
  1. Mutual Funds & ETFs

    3 Fixed Income ETFs in the Biotech Sector

    Learn about the top biotechnology ETFs, such as the SPDR S&P Biotech ETF, the First Trust NYSE Arca Biotech ETF and the iShares Nasdaq Biotech ETF.
  2. Stock Analysis

    4 Reasons Intercept Pharmaceuticals Should Be on Your Radar

    Learn about Intercept Pharmaceuticals and what type of biopharmaceuticals it seeks to create. Understand four reasons why the company is a good investment.
  3. Investing

    Looking To Begin Trading In The Stock Market?

    If you are a new trader, we explain the differences between penny stocks and options so you can make the best decision for your personal trade plan.
  4. Mutual Funds & ETFs

    ETF Analysis: United States Natural Gas Fund LP

    Find out more about the United States Natural Gas exchange-traded fund, the characteristics of the ETF and the suitability and recommendations of it.
  5. Mutual Funds & ETFs

    ETF Analysis: United States Oil Fund

    Find out more about the United States Oil Fund, the characteristics of USO, and the suitability and recommendations of the ETF for investors.
  6. Mutual Funds & ETFs

    ETF Analysis: PowerShares DB Oil

    Find out more about the PowerShares DB Oil exchange-traded fund, the characteristics of the ETF and the suitability and recommendations for it.
  7. Mutual Funds & ETFs

    ETF Analysis: ProShares UltraShort Bloomberg Crude Oil

    Find out about the ProShares UltraShort Bloomberg Crude Oil ETF, the characteristics of the inverse ETF and the suitability and recommendations of it.
  8. Mutual Funds & ETFs

    3 Fixed-Income ETFs in the Silver Sector

    Find out about the top ETFs that track the silver sector, such as the iShares Silver Trust ETF, ETFS Physical Silver Shares ETF and ProShares Ultra Silver ETF.
  9. Stock Analysis

    If You Had Invested Right After Facebook's IPO

    Find out more about how much you would have made if you invested $1,000 into Facebook Incorporated right after its initial public offering.
  10. Active Trading Fundamentals

    If You Had Invested Right After Google's IPO

    Find out more about how much money you would have if you invested $1,000 in Google Incorporated right after its initial public offering date.
RELATED TERMS
  1. Bid Wanted

    An announcement by an investor who holds a security that he or ...
  2. Hindsight Bias

    A psychological phenomenon in which past events seem to be more ...
  3. Form 211

    1. A form that must be completed by a market maker and filed ...
  4. Nasdaq-100 Pre-Market Indicator

    An index of trading activity based on pre-market open prices ...
  5. Flash Freeze

    A sudden shutdown in trading activity on an exchange. “Flash ...
  6. Closing Cross

    A price discovery mechanism on the Nasdaq that crosses buy and ...

You May Also Like

Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!