How to Buy OTC stocks
Learn how to buy OTC stocks in a few simple steps. Discover the basics of OTC investing and make informed decisions.
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While many investors prefer to buy stocks on big exchanges, other options like over-the-counter (OTC) stocks are available.
Although OTC stocks are riskier than stocks listed on the NYSE or NASDAQ, they can offer significant rewards. If you're willing to take on the risk and invest long-term, OTC stocks can be a valuable addition to your portfolio.
What are OTC Stocks?
OTC stocks are shares of smaller companies that are sold at much lower prices. This is because these smaller companies fail to meet the exchange listing requirements of stock exchanges.
OTC stocks are also known as unlisted stocks. They are usually traded through broker-dealers instead of centralized markets. This results in lower liquidity and wider bid-ask spreads compared to exchange-listed stocks.
OTC stock has the potential to transition and be listed on major stock exchanges such as NYSE, provided that it satisfies the listing requirements set by the exchange.
- Microcap stocks: Companies with market caps between $50 million and $300 million.
- Emerging growth companies: Companies experiencing rapid growth but with limited financial history
- Pink Sheet stocks: Companies trading on the Pink Sheets, an electronic quotation service for OTC stocks
How to Invest in OTC Stocks
Ready to invest in OTC stocks? Here are a few simple steps you can take.
If you have a high-risk tolerance, OTC stocks may be worth it for you. The OTC market is generally considered to be a risky one, but that only means there's also a potential for high returns.
Choosing an OTC Broker
OTC stocks are often listed in OTCQX, OTCQB, and OTC Pink.
When selecting a market for purchasing OTC stocks, consider markets with strict listing requirements for trading companies. Also, make sure the company is regulated by the SEC and has financial reports.
- OTCQX: The most transparent and regulated OTC market. It only includes stocks priced above $5 and accepts OTC stocks from companies that are closely monitored by the SEC and follow high standards set by the SEC.
- OTCQB: A market for developing companies that meet only certain financial disclosure standards by the SEC.
- OTC Pink: A market for companies with no financial requirements. This is the riskiest trading for OTC stocks.
Some brokerage platforms also offer OTC stock trading. Webull, for example, has a commission-free OTC stock trading with over 500 OTC securities (but transaction fees may apply).[2]
TD Ameritrade accepts orders for over 10,000 OTCBB and other non-listed securities such as OTC Bulletin Board and Pink Sheet [3]
But TD Ameritrade also charges a $6.95 commission to online trades of over-the-counter (OTC) stocks (stocks not listed on a U.S. exchange). [4]
Another alternative would be Fidelity with a free-trading commission fee.
Opening an OTC Brokerage Account
When creating an account, you'll provide personal information such as your full name, birthdate, mailing address, phone number, and email address.
Additionally, you might need to provide the following documents:
- Government-issued ID - A clear copy of a valid driver's license, passport, or other government-issued ID is required for identity verification.
- Proof of address - A recent utility bill, bank statement, or other document with your current residential address is required for address verification.
- Social Security number - For tax purposes, you may be asked to provide your Social Security number. This information is used to report investment gains or losses to the IRS.
Fund Your Account
Once your account is approved, transfer funds from your linked bank account or debit card to your brokerage account.
The minimum initial deposit requirement may vary depending on the broker. Also, remember to consider any fees or charges associated with depositing funds into your account.
Place Your Order
Once you have an OTC brokerage account with enough money, you can start buying OTC stocks. Buying OTC stocks is similar to buying listed stocks, but there are a few things to keep in mind. These include order types and bid and ask prices.
There are three main types of orders you can place when buying OTC stocks:
- Market order
This tells the broker to immediately buy the stock at the current market price. - Limit order
This tells the broker only to buy the stock if the price is at or below a certain price you set. - Stop order
This tells the broker to buy the stock only if the price goes above a certain price you set.
The bid price is the highest price a buyer is willing to pay for the stock. The asking price is the lowest price a seller is willing to accept for the stock. The difference between the bid and ask prices is called the spread.
OTC stocks can be risky, but they also have the potential for high returns. If you are considering buying OTC stocks, it is important to weigh the risks and potential rewards carefully and do your research to understand the companies you are investing in.
Who Can Buy OTC Stocks?
Despite OTC stocks giving you access to smaller companies and markets outside of the main exchanges, they still have eligibility requirements. These include:
- Age
You must be at least 18 years old to open an OTC brokerage account. - Citizenship
You must be a citizen or resident of the United States to open an OTC brokerage account with most brokers. - Minimum Deposit
Opening an OTC brokerage account may require a minimum initial deposit. The minimum deposit amount varies depending on the brokerage.
Why Buy OTC Stocks?
OTC stocks can offer higher returns to investors willing to take on more risk. Here are some reasons why you might consider investing in them.
- Access to Smaller Companies
Investors can use OTC stocks to invest in promising companies that may not be eligible for major exchanges. They give you access to early investment opportunities. - Diversification Opportunities
Investing in OTC stocks can diversify a portfolio, providing exposure to companies not represented in traditional investments. - Light Regulation
The OTC attracts more companies that cannot or choose not to list on exchanges because it has fewer regulations. - Possible High Returns
Since OTC stocks trade at lower prices, investors can earn high returns if the company succeeds.
Risks in Buying OTC Stocks
However, it's important to remember that OTC stocks are riskier than those listed. Here are some of the risks associated with OTC stock investing:
- Lower Liquidity
OTC stocks are traded less frequently than listed stocks, meaning fewer buyers and sellers may be in the market. This can make it difficult to find a buyer for your shares at a price you will accept. - Wider Bid-Ask Spreads
The bid-ask spread is the difference between the highest price a buyer is willing to pay for a stock and the lowest price a seller is willing to accept. Bid-ask spreads are typically wider for OTC stocks than for listed stocks. This means that you may have to accept a lower price than you originally wanted to sell your shares for to find a buyer. - Potential for Higher Volatility
OTC stocks can be more volatile than listed stocks, meaning their prices fluctuate more sharply. This makes them riskier for investors who are uncomfortable with significant ups and downs in their portfolio value.
It can be difficult to sell OTC stocks compared to stocks that are listed on a major exchange. This is because OTC stocks have lower liquidity, meaning there are fewer buyers and sellers on the market. As a result, you may have to accept a lower price than you originally wanted to sell your shares. You may also have to wait longer for your order to be filled.
OTC Stocks vs. Stock Exchange
Before investing in OTC stock, it's important to consider the key differences between OTC and listed stocks:
- Listing Status
OTC stocks are not listed on major exchanges and have less strict listing requirements, making them potentially riskier. - Liquidity
OTC stocks typically have lower trading volumes and narrower spreads, resulting in less liquidity and potential delays in executing trades. - Regulatory Oversight
OTC stocks have less regulatory oversight, raising concerns over transparency.
Bottom Line
Investing in OTC stocks can be a great way to gain exposure to smaller and less established companies. But it's also risky because of their lower liquidity, wider bid-ask spreads, and potential for high volatility.
However, extensive research can minimize these risks, diversify your investments, and adopt a long-term investment approach. Before investing in OTC stocks, conducting thorough research on the companies you are considering is crucial.
Evaluate their financial performance, industry trends, management team, and any potential risks associated with their business operations. This will help you make informed investment decisions and reduce your exposure to unnecessary risk.
References
- ^ Security and Exchange Commission. A Regulation A Secondary Trading, Retrieved 01/06/2024
- ^ Webull. OTC Trading, Retrieved 01/06/2024
- ^ TD Ameritrade. Pink Sheet and OTCBB securities, Retrieved 01/06/2024
- ^ TD Ameritrade. Pricing, Retrieved 01/06/2024
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