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Decoding Crypto OTC Trading: A Comprehensive Exploration

By Safeheron Team - 2024-06-07

With the rapid expansion of cryptocurrencies, more and more investors and institutions are entering this burgeoning market. Similar to traditional finance, cryptocurrency trading takes many forms. Among them, Over-The-Counter (OTC) trading has garnered attention and popularity, playing a crucial role in large-scale transactions and contributing significantly to price discovery and market liquidity.

What is OTC Trading

OTC trading, or Over-The-Counter trading, refers to transactions conducted privately rather than through centralized exchanges. Unlike public buying and selling on centralized exchanges, OTC trades are typically agreements directly negotiated between buyers and sellers, with transaction details and prices not disclosed publicly. This form of trading originated in traditional finance, primarily used for the buying and selling of stocks, bonds, derivatives, and other bulk commodities.

In OTC trading, the parties involved can customize the transaction terms based on their needs, such as price, quantity, and settlement time. As these transactions do not go through an exchange, this method offers greater flexibility, better accommodating large-scale trades while avoiding significant impacts on market prices.

Crypto OTC vs Traditional OTC

Crypto OTC trading differs from traditional OTC trading in several ways. Firstly, the decentralized and global nature of the cryptocurrency market makes OTC trading more flexible and diverse. Cryptocurrency OTC transactions are often conducted through specialized platforms and technologies, which provide a secure trading environment and efficient settlement services.

Secondly, market participants in crypto OTC trading are more diverse. In addition to traditional institutional investors, many high-net-worth individuals, hedge funds, and cryptocurrency miners also engage in these transactions. They utilize OTC trading for large-scale buys and sells to obtain better prices and liquidity.

Furthermore, the trading process and technical support for cryptocurrency OTC transactions are different. Traditional OTC trading often relies on phone calls, emails, and other means, whereas crypto OTC trading leverages electronic platforms and smart contracts, achieving automated and efficient trading. The application of these technologies not only improves transaction efficiency but also enhances security and transparency.

Characteristics of Crypto OTC Trading

  1. Transaction Size and Volume: Cryptocurrency OTC transactions typically involve large amounts of funds, making them popular among institutional investors and for large-scale trades. These large transactions often significantly impact market prices, so conducting them through OTC trading can avoid drastic price fluctuations.
  2. Anonymity and Privacy Protection: OTC transactions are usually conducted privately, with transaction details and participant information not publicly disclosed. This confidentiality is crucial for investors who wish to keep their trades discreet, a particularly significant need in the crypto market.
  3. Settlement Speed and Cost: Crypto OTC trading typically occurs through specialized platforms that offer fast and secure settlement services. Compared to traditional finance, cryptocurrency settlement is faster and generally lower in cost, providing both parties with higher efficiency and economic benefits.

Key Roles of Crypto OTC Trading in the Market

Cryptocurrency OTC trading plays an essential role in the market, primarily in the following areas:

  1. Improving Market Liquidity: In OTC trading, large amounts of funds can flow through the market without impacting the stability of public market prices. This type of trading not only protects price stability but also avoids price fluctuations caused by large trades. By doing so, the overall liquidity of the market is significantly enhanced, allowing more funds and assets to move freely within the market, thus promoting healthy economic development.
  2. Aiding Price Discovery: Large transactions in the OTC market provide critical information about market demand and supply. These insights, derived from various trading activities such as buying, selling, and exchanging, can help us better understand and predict market trends, leading to more accurate price discovery. By obtaining and analyzing these data, market participants can develop more scientific and accurate trading strategies and investment decisions, providing high value to investors by helping them better understand and predict market fluctuations.
  3. Supporting Bulk Trading: Many institutional investors and high-net-worth individuals often require large-scale transactions that may not be feasible in the public market due to size and liquidity limitations. OTC trading provides a flexible and efficient channel to meet these needs, allowing investors to achieve large trades while offering more trading strategies and better prices.

Advantages and Challenges of Crypto OTC Trading

Advantages:

  1. Higher Flexibility:
    • OTC trading allows parties to customize transaction terms based on their needs, offering greater flexibility. This is crucial for investors requiring specific trading arrangements, such as agreed transaction time, quantity, and price, without both parties having to adhere to the fixed rules of an exchange. This flexibility also manifests in the ability to quickly respond to market changes and customer demands, offering personalized trading services.
  2. Lower Market Impact:
    • Since OTC transactions are conducted privately, large trades do not directly impact market prices, avoiding price volatility and market risk. For example, a bulk buying in the open market could cause the price to rise, whereas through OTC trading, the price can remain stable. This method is particularly suitable for bulk deals, preventing potential market manipulation and speculation.
  3. Customized Trading Solutions:
    • OTC trading offers tailored solutions based on specific customer needs, crucial for institutional investors and large fund holders.
    • Customized trading can include multi-asset combinations, complex hedging strategies, and other specific requirements to assist customers in achieving optimal trading outcomes.

Challenges:

  1. Regulation:
    • The regulatory environment for crypto markets is unique, with significant differences in regulatory policies across countries and regions, potentially causing uncertainty. For instance, if some countries introduce new regulations on cryptocurrencies, they can directly impact the legitimacy and compliance of some transactions.
    • Inadequate regulation may increase improper market participant behavior, further raising market risks.
  2. Hacker Attacks:
    • OTC transactions, often manually conducted, face risks from dusting attacks, phishing attacks, and other common security vulnerabilities, seriously threatening transaction security and digital asset protection. For example, hackers might use technical means to steal transaction information or directly siphon assets.
  3. Custody Platforms:
    • OTC service providers often use third-party platforms, such as centralized custodians or exchanges, which means they depend on these custodians for deposits and withdrawals. Thus, that full control of the assets isn't entirely in their hands. Issues such as malicious actions, operational errors or mismanagement by the custodian can lead to significant asset loss. Choosing reliable custodians and enhancing oversight and auditing are crucial to mitigating this risk.
    • Larger platforms, such as exchanges and centralized custody platforms, typically offer their own OTC services. They can naturally rely on their own systems to manage funds without third-party custodians. However, for most OTC service providers, developing and maintaining a secure and reliable custody platform is complex and costly. As a result, they usually use third-party custodians to ensure the safety of user funds and data. This way, they can focus on business growth and user experience without worrying about the technical challenges and risks of a custody platform.
  4. Counterparty:
    • The risk of counterparties in OTC trading is higher, especially in a lack of transparency and regulation. Due diligence and risk mitigation measures are necessary to ensure successful and secure transactions. Such as a counterparty might default, fail to deliver assets as agreed, or have financial issues that affect the smooth completion of the transaction.
    • Implementing Know Your Customer (KYC) procedures is crucial for reducing counterparty risk. KYC is a set of processes financial institutions use to comply with anti-money laundering (AML) regulations and conduct due diligence. In crypto OTC trading, KYC helps market participants understand their counterparty's identity, financial status, and transaction history, thereby reducing trading risk. KYC typically involves collecting and verifying the customer's identification (like ID cards or passports), proof of address, and other relevant documents. Financial institutions may also monitor customers' trading behavior for any unusual or suspicious activities. So, with the KYC procedure, market participants can better understand their counterparties, reduce trading risks, and ensure the security and compliance of transactions.

Safeheron Empowering OTC Service Providers

3-of-3 MPC Multisignature Scheme

Safeheron uses a 3-of-3 MPC (Secure Multi-Party Computation) multisignature scheme, significantly enhancing fund security. MPC technology shards private keys and processes them in a distributed environment, effectively eliminating single-point risks. This ensures that even if a single node is attacked or compromised, hackers cannot obtain the complete private key to sign transactions. So, customers can maintain 100% control over their assets, ensuring that any transaction requires the collaborative computation of three private key shards. This significantly enhances the security and reliability of fund management.

Flexible Permission Management

Safeheron provides a flexible permission management system, allowing secure and convenient role-based access control within a team. Team managers can set different permissions for each member to ensure they can only access and operate the assets and functions within their scope of responsibilities. This flexible system not only improves business efficiency but also reduces operational errors, enhances accountability, and strengthens business security. Clear division of permissions effectively supports the efficient management of complex transactions, making team collaboration smoother and ensuring the continuity and stability of business operations.

Support for Popular Blockchain Stablecoins

Safeheron supports stablecoins from mainstream blockchains, providing a convenient and efficient one-stop asset management experience. OTC service providers can easily manage kinds of digital assets, thereby enhancing the convenience and security of asset operations. This feature makes asset management more convenient and centralized, reducing operational complexity and thus improving overall management efficiency.

24/7 Self-Service Transfers

Safeheron is a self-custody platform where the asset transfers are managed by the users themselves, without the need for platform intervention. OTC service providers can transfer funds at any time, ensuring the continuity and flexibility of transactions. This feature is ideal for users who need to frequently conduct large transactions, ensuring that funds can be operated in a timely and efficient manner.

Integrated AML & KYT Transaction Monitoring

Safeheron’s platform integrates AML (Anti-Money Laundering) and KYT (Know Your Transaction) transaction monitoring to automatically identify and flag risky transactions. In-house intelligent algorithms can effectively defend businesses against dusting attacks and reduce the risk of human error. The AML and KYT features help OTC service providers comply with regulatory requirements during transactions, ensuring the security and legality of the trades.

Compliance and Certification

Safeheron holds ISO 27001 and SOC2 security certifications, ensuring that the platform meets international standards in information security management and service organization controls. For OTC service providers, these certifications not only endorse the platform's security and reliability but also provide robust support for their own compliant operations.

Open Source

Safeheron has open-sourced its core algorithms on GitHub, demonstrating its commitment to openness and transparency. This initiative enhances user trust by allowing for the public review and verification of the core code, ensuring the transparency and reliability of its operations. Open-sourcing not only boosts Safeheron's credibility but also contributes valuable resources to the tech community, driving the advancement of the entire industry.

Conclusion

Crypto OTC trading occupies an important position in the cryptocurrency market, providing an efficient and flexible trading channel for large transactions and institutional investors. Despite facing challenges such as regulatory risks, hacker attacks, and counterparty risks, OTC trading continues to play a crucial role in the market due to its unique advantages.

In parallel, multisignature solution such as Safeheron's 3-of-3 MPC (Secure Multi-Party Computation) multisignature scheme empowers service providers in crypto OTC trading by offering higher security and flexibility. By adopting this solution, OTC service providers can ensure a high level of security and control over their funds, further enhancing the reliability and efficiency of transactions. Looking ahead, with the gradual maturation of the regulatory environment and continuous technological advancements, crypto OTC trading is expected to see even broader development prospects. Investors and market participants can closely track relevant policies and technological developments, actively address challenges, seize opportunities, and achieve better investment returns.