The OTC cryptocurrency market is one that’s often misunderstood by many in the industry. Some believe that OTC deals dictate the price of cryptocurrencies, while others believe institutions simply purchase their cryptocurrencies directly from an exchange.
The truth is somewhere in the middle, while a number of exchanges have specific over-the-counter trading desks, it is often easier for institutional investors to deal directly with sellers via a traditional escrow service or law firm.
Firms like Dentons, LMAX and GTES facilitate many of the OTC deals, which can range from 5,000 Bitcoin per transaction all the way up to 250,000 Bitcoin.
Institutional traders usually employ a mandate or broker to go out and find the right match for their requirements, as a result there are are hundreds, if not thousands, of OTC brokers who will earn commission when a deal closes.
The reason these institutional investors choose the OTC market as opposed to an exchange is to avoid slippage and earn a discount. If a buyer was to put $200 million on Bitfinex and click market buy, the price would move to the upside, meaning that the average buy-in price would be much higher than if they were to purchase from an over-the-counter seller.
Another incentive to purchase cryptocurrency over-the-counter is to obtain a discount. Depending on the market sentiment buyers can often earn anywhere from -2% to -5% net discounts, with sellers offering additional discounts to be paid to intermediaries and brokers.
Unfortunately, the hype surrounding cryptocurrency over the past 12 months has enticed a number of bad actors into the space. Many will pose as institutional sellers or miners, offering attractive discounts for high volume sales. These sellers are often just illicitly hunting for details of big buyers, a rule to go by is ‘if the discount is too good to be true, it most certainly is’.
The procedure of an OTC deal often starts from the main buyer or seller, they will contact their mandate or broker to go out and find a suitable match. Once the broker has found a match, non-disclosure agreements will be signed with all parties and negotiations can get underway.
As world banking frowns upon cryptocurrency transactions, large deals often have to be traded in tranches of 5%-10% per day. So if someone is looking to buy 100,000 BTC, they will purchase 5,000 per day for 20 days until the supply is spent.
OTC doesn't effect open market, coins are usually sourced from large holders such as miners, not exchanges.
— Vortex (@theonevortex) October 24, 2018
Once the tranche volume and discount is agreed upon the buyer and seller will negotiate a method of transaction, this can either be bank-to-bank or using an escrow service. Bank-to-bank transactions use SWIFT codes like MT103/79, this blocks funds until the coins on the other side of the transaction are clear, minimising the risk.
Escrow agents require both the buyer and seller to ‘onboard’ their service. This step goes through the KYC (know your customer) and AML (anti-money laundering) checks to ensure both parties are legitimate. Once that stage is complete both parties have to upload their coins and funds to the firm then sign paperwork with intermediaries to confirm rates of commission.
When all of the above steps are completed the escrow agent can transact the deal, with the deal closing once funds and coins are cleared on both sides.
The simple answer to whether OTC deals affect the price on exchanges is ‘no’. The reason institutional buyers use OTC services is to avoid slippage on their purchase. However, what the buyer then does with their Bitcoin is completely up to them, if an entity was to purchase 100,000 BTC at a -4% discount, they could slowly offload their coins at spot price on an exchange, which could in fact move the market to the downside.
While deals don’t have a direct impact on price, an influx of buyers or sellers looking to transact OTC can affect the rate of discount, which can in-turn have implications on the future price.
Over-the-counter deals are, simply put, a way of transacting large volume of cryptocurrency through a series of brokers and escrow agents. The reason for OTC deals is to avoid impacting the market, as well as earning a discount.
To monitor the OTC market is potentially a good indicator for market sentiment. If high net-worth individuals all flock to buy Bitcoin at a certain price-point, it’s an indication that confidence is high, whereas if a number of sellers suddenly start to post sell-orders, it could be an indication that the market is about to move to the downside.