InvestorQ : What are OTC options and what are Exchange Traded Options?
F&O
Lavanya Subramanian made post

What are OTC options and what are Exchange Traded Options?

Answer
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2 years ago


OTC ("over the counter") options are those dealt directly between counter-parties and are completely flexible & customized. There is some standardization for ease of trading in the busiest markets, but the precise details of each transaction are freely negotiable between buyer and seller.

An exchange traded option is the typical option that you get to trade on the NSE or the BSE F&O segment. The unique thing about these contracts is that they are standardized and also they are traded on a recognized stock exchange making a ready secondary market available. But more importantly, these trades are counter guaranteed. The clearing corporation of the exchange guarantees each trade. That means the clearing corporation acts as the counterparty to each transaction. So if A buy a call and B sells a call, then they both don’t deal directly but via the clearing corporation. Even if one party defaults, the clearing corporation takes upon itself to clear the trades and then recover the losses from the margins of the defaulting party. This ensures that the market mechanism and market integrity is not impacted due to the actions of a small set of traders.