About Over-The-Counter Stocks

Introduction

Throughout StockMarketMBA.com, we are mostly focused on stocks that trade on a stock exchange like the NASDAQ or NYSE. But there are 10,000+ stocks that are not traded on an exchange, but rather are traded "over-the-counter" or "OTC". The phrase over-the-counter is used to refer to stocks, debt securities and other financial instruments that trade via a dealer network as opposed to on a centralized exchange. Also known as unlisted stock, and often referred to as "penny stocks", these securities are traded by broker-dealers who negotiate directly with one another over computer networks and by phone.

Stocks are traded OTC primarily for three reasons:

If a foreign company wants to list their stock on the NYSE or NASDAQ, they have to meet U.S. Securities and Exchange ("SEC") filing requirements and they have to meet the requirements imposed by the NYSE or NASDAQ. Some foreign companies don't want to do that, because they are already having to meet filing requirements imposed by the stock exchange in their home country. An alternative that is simpler is to have their shares traded on the U.S. OTC market. When a foreign company wants their shares to trade on the U.S. OTC market, they can either have those shares directly traded on the U.S. OTC market or they can work with a U.S. investment bank to create a "sponsored" ADR that is traded OTC.

If you are new to ADRs, you can read what is an ADR? There are hundreds of exchange traded ADRs, as shown in our list of exchange traded ADRs. But there are also hundreds of OTC traded ADRs - see our list of OTC ADRs .   An unsponsored ADR is an ADR created by an U.S. bank without the involvement of the foreign company, and can only be traded OTC.

OTC Markets Group

The OTC Markets Group runs the largest network of OTC securities. The OTC Markets Group is a publicly traded company whose stock trades OTC - see the symbol OTCM. The OTC Markets Group owns and runs the largest alternative trading system, or "ATS", that is used to execute trades of OTC stocks. An ATS is a computer system that allows brokers to executes trades, similar to a stock exchange. As explained in about U.S. stock exchanges, there are 30+ alternative trading systems in the U.S. On any given day, 40-45% of all trades that people think of as being executed on an exchange are actually executed on an ATS. So the way that OTC stocks trade is not that much different than the way that exchange listed stocks are traded. The main difference is the volume of trades and the number of active buyers and sellers.

The ATS owned by the OTC Markets Group has around a 90% market share for OTC equity securities. We are aware of two other ATS that are focused on OTC equity securities:

But perhaps the most important thing that the OTC Markets Group does is they organize OTC securities into three "markets" or categories based on the quality and quantity of information the companies are currently making available to investors:

Keep in mind that most companies that are trading OTC are not reporting to the U.S. Securities and Exchange Commission, as required by companies that have a stock traded on a stock exchange. So the question becomes: what information is available on these OTC stocks, if there are no SEC filings?

The OTC Markets Group invented the OTCQX and OTCQB markets as a way to indicate that many companies trading OTC are making alternative forms of disclosures to investors, other than reporting to the SEC. The OTCQX companies are considered to provide the highest level of information and meet the most stringent standards imposed by the OTC Markets Group. The OTCQB companies are considered to meet some standards imposed by the OTC Markets Group, but not enough to be OTCQX. The companies classified as trading in the Pink Open market are not meeting any financial standards or disclosure requirements imposed by the OTC Markets Group.

What alternative forms of disclosure does the OTC Markets Group require? It depends on the type of security. For example, many small U.S. banks are traded OTC, but are not registered with the SEC. But these banks are required to file their financial statements with the Federal Deposit Insurance Corporation or state banking regulators. Such disclosures are considered "acceptable" for trading OTC by the OTC Markets Group, even if the small banks are not filing anything with the SEC.

For international companies that have a common stock or ADR traded OTC, the OTC Markets Group mainly looks at whether the company is meeting the disclosure requirements of the stock exchange that the company trades on in their home country.

Our database

Because of the relative "unknown" status of companies classified as Pink, we have adopted a policy to only put in our database the following OTC traded companies:

Here is a summary of the OTC stocks in our database based on the OTC Markets Group classifications:

CategorySecurity CountTotal Market Cap%
OTCQB855$111.36 billion1.00%
OTCQX445$2.68 trillion24.02%
Pink439$8.36 trillion74.98%
Total1,739$11.15 trillion100.00%

Let's break down the OTC securities currently in our database based on the type of security:

CategorySecurity CountTotal Market Cap%
ADRs475$8.11 trillion72.77%
International common stocks675$2.88 trillion25.85%
US common stocks587$152.89 billion1.37%
Unknown2$1.06 billion0.01%
Total1,739$11.15 trillion100.00%

Notice that ADRs and international common stocks dominate the market cap of the OTC stocks in our database. That's because there are quite a few large international companies that have their common stock (or an ADR) traded OTC. In fact, the U.S. OTC market has very much become more about a way for foreign companies to trade shares in the U.S. than it is about a way for small U.S. companies to have their stock traded.

Trading statistics support the idea that the OTC market is now dominated by the common stocks/ADRs of foreign companies. FINRA is a government-authorized not-for-profit organization that oversees U.S. broker-dealers. One role FINRA plays is they often collect and summarize data provided by brokers, including OTC trading stats. Here is a summary of the trading volume of all OTC stocks according to FINRA in April 2020:

Type of securityDollar volume traded%
ADRs$26,616,755,84076%
Foreign stocks$4,847,705,38914%
U.S. stocks$3,644,394,89210%
Total$35,108,856,121100%

You can look up these stats every month using FINRA's market statistics page.

By the way, $35 billion in trading volume is a lot of money, but it pales in comparison to the trading volume on U.S. stock exchanges, which typically averages $6 or $7 trillion per month. So OTC trading makes up a fraction of 1% of the trading volume of U.S. stock exchanges.

Risks

Trading or investing in OTC stocks can be a risky proposition, primarily because of:

Most OTC stocks are of companies that do not file financial statements with the U.S. Securities and Exchange Commission ("SEC") on a regular basis. Furthermore, stocks traded on a stock exchange have to file a Form 8-K with the SEC whenever a key event happens at the company that investors should know about. Without Form 8-K disclosures, it is more difficult to stay current with what is happening at an OTC traded company.

Although the world is getting more and more connected, it is still hard sometimes to lookup information on foreign companies. On our website, we have some information about securities traded around the world, but not nearly as much information as we have about U.S. traded securities. So if you are looking to buy the stock of a foreign company, or an ADR, that is traded OTC, you may not be able to easily find out as much information about that foreign company.

The two major stock exchanges (the NYSE and NASDAQ) require companies to follow certain corporate governance procedures in order to be listed on their exchange, such as requirements related to having independent members of the Board of Directors and having an audit committee of the Board of Directors. These requirements designed to protect investors do not apply to OTC stocks.

OTC stocks can also be thinly traded. That means that if an investor wants to buy or sell an OTC stock, there isn't as much information available to know how much to offer or ask for that stock. It is also unclear if there are always enough other investors willing to buy or sale a particular OTC stock. So if you buy an OTC stock, there is no guarantee that you will be able to sell it on a timely basis at the price you want, especially during market crashes or other times of financial crisis.

Many OTC stocks started out as stocks traded on a stock exchange and then ran into trouble and were unable to meet the ongoing requirements to stay listed on a stock exchange. So an investor has to be able to filter through OTC stocks to avoid these troubled situations, which isn't always easy given the lack of available information on OTC stocks.

Are Pink stocks the riskiest?

Yes, and no.

The Pink companies are normally considered the "riskiest" as they provide the least amount of ongoing information to investors. Or said another way, they haven't made any attempt to meet the standards imposed by the OTC Markets Group so that they can be classified as OTCQX or OTCQB. However, the Pink companies consist of two types of companies: small U.S. companies that are microcaps and shares/ADRs of mostly large and midcap foreign companies (size categories are explained in our article size categories). The risk profiles of these two types can be substantially different, especially if you are an investor who has tools to research companies traded on foreign stock exchanges.

There are hundreds of large foreign companies that trade OTC and that are labeled Pink because they haven't made any additional attempt to disclose information to U.S. investors in English, beyond the disclosures they are already making in their home country. For example, National Grid PLC is a massive utility in the United Kingdom that trades on the London Stock Exchange. National Grid's shares also trade in the U.S. on the OTC market - see the symbol NGGTF. If you think you have enough information about National Grid to invest in it, the biggest remaining challenge is to safely execute a trade in NGGTF. NGGTF's average volume is very small, and on some days, there are no shares of NGGTF traded at all. So the process of executing a trade in NGGTF is not "point and click" like it is when you trade a security listed on a U.S. stock exchange. But most investors would probably agree that buying shares of NGGTF is less risky than buying the shares of some small U.S. microcap that is labeled Pink.


All data is a live query from our database. The wording was last updated: 05/30/2020.

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