The OTC market and broker-dealers’ activities in the market are regulated by The Financial Industry Regulatory Authority (FINRA), the U.S. Securities and Exchange Commission (SEC) and various state securities regulators. As well, companies with SEC-registered securities are regulated by the SEC. OTC Markets Group is neither a stock exchange nor a self-regulatory organization (SRO) and is not regulated by either FINRA or the SEC.
Key OTC market regulations include:
- Best Execution (FINRA Rule 2320)
- Limit Order Protection (FINRA Rule 5320)
- Display of Customer Limit Orders (FINRA Rule 6460)
- Firm Quotes (FINRA Rule 5220 & IM-5220)
- Restrictions on Access Fees (FINRA Rule 6450)
- Initial Quote Disclosure Requirements (FINRA Rule 6432)
- Short Position Disclosure (FINRA Rule 4560)
- Minimum Quotation Size Requirements for OTC Equity Securities (FINRA Rule 6433)
Best Execution (FINRA Rule 2320) – FINRA requires member firms to find the market with the best price to execute their customer order. OTC Link and the FINRA's OTC Bulletin Board TM Quotation System are the two recognized inter-dealer quotation systems for facilitating electronic best execution by broker-dealers. The two quotation systems may only be used to satisfy best execution if there are two or more priced quotes in a security. If less than two priced quotes exist for a security, broker-dealers must contact three other dealers for priced quotations. See complete text of Rule 2320.
Plain speak: Broker-dealers may not give their customers prices inferior to those currently being quoted on inter-dealer quotation systems.
Limit Order Protection (FINRA Rule 5320) – FINRA members may not trade for their own account at prices that would satisfy Limit Orders currently within their order book. See complete text of Rule 5320.
Plain speak: Broker-dealers cannot use their knowledge of customer orders to provide customers with inferior prices. For example, buying a security for less than a known Limit Order price and then selling the security to the customer at the Limit Order price.
Display of Customer Limit Orders (FINRA Rule 6460) – FINRA members publishing quotations in an inter-dealer quotation system must publish the price and full size of a customer order if that order improves or is equal to the member’s price. Exceptions exist for orders under minimum tier size, block orders and customer requests. See complete text of Rule 6460.
Plain speak: Broker-dealers must display customer orders that improve their current quote.
Firm Quotes (FINRA Rule 5220 & IM-5220) – FINRA requires every member to trade a security at its publicly quoted (OTC Link or FINRA's OTC Bulletin Board) price and size. See complete text of Rule 5220.
Plain speak: Broker-dealers must honor quotes posted on an inter-dealer quotation system.
Restrictions on Access Fees (FINRA Rule 6450) – FINRA members shall not impose, nor permit to be imposed, non-subscriber access or post-transaction fees against its published quotation in any OTC Equity Security that exceed or accumulate to more than: (a) $0.003 per share, if the published quotation is priced equal to or greater than $1.00; or (b) the lesser of 0.3% of the published quotation price on a per share basis or 30% of the minimum pricing increment under Rule 6434 relevant to the display of the quotation on a per share basis if the published quotation is less than $1.00. See complete text of Rule 6450.
Plain speak: Broker-dealers may charge an additional ‘access fee’ to broker-dealers who want to trade at their quoted price. The fee maximums are based on the tick size (> .01) or price (< .01). OTC Markets QAP (Quote Access Payment) functionality allows broker-dealer to dynamically set their fees or rebates.
Initial Quote Disclosure Requirements (FINRA Rule 6432) – Compliance with the Information Requirement of SEA Rule 15c2-11 – To initiate quotations on an inter-dealer quotation system for an OTC security not currently being quoted or to resume quotations after a four day absence or SEC suspension, a market maker must submit a Form 211 to FINRA. Once FINRA approves the 211, the market maker may submit a quotation to the applicable inter-dealer quotation system(s) they selected on the Form 211. See complete text of Rule 6432.
Plain speak: In most cases, FINRA approval of Form 211 is required for new quotation on OTC Link or the OTC Bulletin Board.
Short Position Disclosure (Rule FINRA 4560) – FINRA members must report their short interest positions in OTC equity securities at mid-month and end of the month. See complete text of Rule 4560.
Plain speak: FINRA publishes the short interest list seven days after the 15th and last day of each month. This information is available for every OTC security on OTCMarkets.com.
Minimum Quotation Size Requirements for OTC Equity Securities (FINRA Rule 6433) – FINRA members acting as market makers by submitting quotations into an inter-dealer quotation system must adhere to the minimum size requirements set by FINRA. For example, all quotations with a price less than or equal to $.50 must have a minimum size of 5,000 shares. See complete text of Rule 6433 and view complete price-size table.
Plain speak: Broker-dealers must post quotes in an inter-dealer quotation system of certain minimum sizes.
Feeling smart? Let’s delve into some more complex concepts and OTC Market scenarios in Part 4 – Advanced Concepts.