Derivatives: introduction to options: over the counter options
An Over The Counter (OTC) option originates from the days when options, for example, were typically acquired ‘over the counter’ of a bank. The characteristics of an OTC option contract include the following:
- Similar to a traded or traditional option, an OTC option is a financial instrument that grants the option holder the right, but not the obligation, to exercise the option and buy (i.e. a call option) or sell (i.e. a put option) an asset at an agreed ‘strike’ price within a prescribed period.
- In broad terms, an OTC option contract can represent dealings in underlying equity securities which are listed or unlisted on investment exchanges.
- The majority of OTC options are bespoke arrangements between a single seller and a single buyer in the same way as traditional options, but unlike a traditional option, the rights to an OTC option contract can be secondary traded on an exchange.
- An OTC option contract is generally undertaken ‘off-exchange’ rather than subject to the rules of an investment exchange.
- Whereas exchange listed traded options are standardised contract specifications i.e. fixed option periods, contract sizes etc, OTC contracts are available on a wide range of underlying assets, with the option terms sufficiently flexible and individually tailored to the requirements of the parties involved.
- OTC option ‘strike’ prices are less transparent to the Market because OTC option contracts may not be listed on an investment exchange.
- The rights to an OTC option contract are not easily transferable as they are not generally exchange related.
- The majority of OTC equity option contracts either lapse upon expiry of the option period or are exercised with a resultant delivery and settlement of the underlying securities.
See STSM112010 for the meaning of ‘strike’ price
See STSM112050 for the meaning of option exercise
See STSM112080 for further information on a Traded Option
See STSM112090for further information on a Traditional Option