Peer-to-Peer Vs Over-the-Counter Exchange: Explained
Over the year, the more organized and open marketplace has evolved, allowing buyers and sellers from all corners of the world to bid and make a settlement in real-time.
This matching mechanism, settlement, and clearing has not only brought traders over a single platform. But, also brought transparency in the market-wide prices of the commodities, thereby, making it easy to predict the market trend.
Taking this discussion further, we’ll be looking over the two powerful modes of exchanges, the P2P and OTC exchanges that have been dominating over the other modes of exchanges.
What’s an OTC Exchange?
An OTC (Over the Counter) Exchange serves as an over-the-counter transaction platform, facilitating transactions for merchants and users, allowing them to buy and sell between legal currency and digital assets among users.
Working off an OTC Exchange
An over-the-counter (OTC) plays an essential role in organizing the financial market. The trade executed between two participants in an OTC market without others being aware of the price at which the transaction is done.
Thus, the price quoted by the dealer to a client may very well differ from the price quoted to another dealer. Also, the bid-ask spread may be wider in the case of the former than in the latter
Further, OTC markets primarily used for trading bonds, currencies, derivatives, structured products, and trade equities. Some of the popular OTC exchanges are OTCQX, OTCQB, and OTC Pink marketplace, which is regulated by the Financial Industry Regulatory Authority (FINRA).
Risks associated with the Over-The-Counter (OTC) Markets
Besides, being one of the prominent modes of the exchange market, there are risks associated with its functionality. Let’s have an overview of the major risks associated with it!
Counter-party risk
The counter-party risk, which states that one party in the transaction will default, before the completion of the trade, or will not make the current and future payments required by them as per the agreement made.
Under-pricing
Additionally, there may sometimes be a lack of transparency in the system that may develop a situation of financial stress. Example, trading of Mortgage-backed securities and other derivatives such as CDOs and CMOs over the OTC market loses its market value.
Because an increase in the number of dealers withdrawing from their market-making functions, exacerbates the liquidity problem, causing a worldwide credit crunch.
What’s a P2P Exchange?
‘Peer-to-peer’ (P2P) is the ‘decentralized’ form of exchange, governed and directed using the software. That allows participants of the market to trade directly with each other without the intervention of any third party.
Unlike ‘Regular’ Digital exchanges the trading between the customers by collecting the fee. The interactions between counterparties on peer-to-peer exchanges are solely directed by pre-programmed software, with absolutely no need of any human intervention.
How does the P2P exchange work?
Before, getting over the working of P2P exchange, let’s understand the functioning of a ‘regular’ Digital exchange, in which the seller specifies the volume and the price at which he/she decides to sell, this final decision, known as ‘orders’, are placed in a common ledger, called the ‘order book.’
Now, as soon as the buyer, come across any of these offers in the order book. He proceeds further, and if no such offer found, he creates his own ‘buy order,’ specifying the terms of the deal as they like. Whenever possible, the exchange matches buy and sell orders by price and processes the trades.
In this whole process, digital-transactions take a longer time — from five to 10 minutes at the least, and up to several hours. While, Fiat money transfers usually take even longer; in some cases, cross-border payments may take several days to complete.
Now, let’s make the above process simpler, how it would be if we omit the need of this intermediate party? It can be done by a P2P Exchange, which is a decentralized mode of exchange that matches the people behind those orders, over one on one basis. i.e., whenever a matching buys and sell orders are found, the exchange software does not immediately proceed with the processing of the trade. But instead, it brings together the buyer with the seller, allowing them to conduct the deal without any intermediaries.
Risks associated with P2P Exchange
Besides, being prominent modes of exchange, a P2P exchange has some risks associated with it. Let’s have a look over it
Lower Liquidity
P2P exchanges at times may be very time to consume, as traders may have to wait for the transactions to complete before a trade is concluded. Thus, at some point of time trader may lose interest in the trade.
Vulnerable to Fraud
Conduction of P2P exchanges must be done with due attention because the way trades are conducted on P2P exchanges leaves the users vulnerable to fraud. For instance, Digital payments are final and cannot be refunded, and, conversely, fiat money transfers are often refundable.
Because of that, a buyer may send their fiat payment, receive the Digital currency, and then request a refund from their bank. Or whatever other financial organization they are using and leave the seller with nothing.
Summing up to these aspects, it may be inferred that the decentralized market is growing at a noticeable rate. Whereby, there is no need for any central physical location, allowing market participants to trade with one another through various modes of exchanges like the above two.
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