OTC (Over-The-Counter) refers to trading conducted directly between parties without using centralized exchanges. OTC markets include currency forwards, commodity swaps, credit derivatives, and customized contracts that don’t meet exchange standards. OTC trading provides flexibility for customized terms but involves counterparty risk.

OTC markets are typically less transparent than exchange-traded markets, with prices negotiated between parties rather than discovered through public auction. Regulatory oversight of OTC markets has increased following the 2008 financial crisis, with many standardized OTC derivatives now requiring central clearing. Understanding OTC market characteristics helps assess liquidity and risk factors.

Real-world example: A corporation enters an OTC currency forward contract with a bank to hedge foreign exchange exposure, customising the amount, maturity, and settlement terms to match specific business requirements not available in standardised exchange contracts.