Exploring OTC Trade Pathways
The OTC (Over-the-Counter) trade life cycle refers to the series of steps involved in executing and settling transactions for financial instruments that are not traded on a centralized exchange. It typically includes the following stages:
Trade Initiation Stage: During this phase, traders will convene with all relevant parties to deliberate on the potential for trade. It is therefore quite personalized. The trade structure and the client’s requirements are discussed. A Legal and Compliance Team may be involved to ensure that the trade transactions are compliant with company policies and the law; an Operations Team may be involved to ensure that the deal is completed operationally in the system and that the system supports such customized OTC deals. The operational team will be familiar with the workflow; the finance and KYC teams will ensure that the deal complies with tax laws; and the risk management team will recognize the credit and market risks associated with it.
Stage of Trade Execution: The Trade Initiation Stage is preceded by the Trade Execution Stage. The Trade Execution Stage is the following step after the Trade Initiation Stage, when all parties involved approve the operational areas, IT systems, risk management, KYC, etc. Here, it’s also known as the Trade Date. At this point, Front Office and the counterparty agree on the trade and exchange details about the following documents:
The trade’s documented term structure, the association’s memorandum and articles of association, and the signatures of all authorized authorities
Business nature proof , KYC evidence
The International Swaps and Derivatives Association (ISDA) and International Securities Markets Association (ISMA) trade reporting packages are two examples of trade reporting standards that both parties can adhere to.
Trade Capture stage: In this phase, trade is entered into both counterparties’ systems. Every trade detail, including the security name, quantity, price, counterparty name, and so forth, will be entered into the system.
Trade Enrichment Stage: Data from the Trade Capture team is categorized into two categories: Trade Data and Static Data.
Trade Data includes those data which are specific to the trade; examples like
Name, quantity, and price of the stock
The trading date and the buy/sell instructions.
Day Count Customs (Relating to Bond Interest)
Static data, commonly referred to as master data, is any data that remains constant from transaction to trade. As an illustration,
The client’s name
Details of contact: phone number, location, Standard Settlement Instructions (SIs). It contains information on the bank, the country of settlement, and the settlement currency.
Settlement Instructions for the Security’s ISIN, SEDOL, and CUSIP
Trade Validation Stage: Trade Validation is the following step after trade enrichment, during which all trade and static data are cross-checked once again. Should there be any disparity, it will be corrected.
Trade Verification & Validation stage: Sending all contract details to the counterparty for cross-verification is known as confirmation, and receiving all contract data from the counterparty for cross-verification is known as affirmation. The information can be sent by mail, fax, or SWIFT between them.
Clearing: The buyer must make sure there are enough cash to pay the seller on the settlement date, and the seller must make sure there are enough shares in the account.
Trade Settlement stage: The transfer of ownership is referred to here. Shares are debited from the seller’s account and credited to the buyer’s account upon payment via messaging services such as SWIFT.
KEY TAKEAWAY
In over-the-counter marketplaces, traders transact directly with one another without the assistance of a central exchange or other intermediary.
OTC marketplaces lack market makers and physical venues.
The most often exchanged over-the-counter products include currencies, bonds, derivatives, and structured products.
