Investing
The Difference Between Exchange Trading and Over-the-Counter Trading
Contents
An interesting discussion formed under my video on whether Revolut is a regulated market. The topic matters for tax treatment, so I think more information is useful here. Awareness and education are always an advantage.
What does an OTC sale of shares mean?
OTC stands for over-the-counter. In simple terms, it means that the transaction does not pass through the central exchange "shop window", where everyone can see buy and sell orders in a common order book.
Instead, the transaction is executed off exchange: for example directly against a broker, a market maker, a systematic internaliser, or another professional counterparty.
OTC does not automatically mean "illegal", "grey", or "unregulated". It means "outside the exchange order book".
The execution can still be fully regulated, with best execution rules, reporting obligations, and publication of trade information. That is why it is important to look not only at the instrument, but also at how the order was actually executed.
How is it different from exchange trading?
In exchange trading, there is an organised market: for example NASDAQ, NYSE, Xetra, Euronext, the Bulgarian Stock Exchange, and others. There is a central system, an order book, access rules, order-matching rules, and a publicly visible market price.
In an OTC transaction, there is usually no such central order book. The client sends an order to an intermediary, and the intermediary may execute it against a market maker, via a systematic internaliser, through an alternative system, internally against its own position, or by aggregating it with other client orders.
Can a listed share be bought or sold OTC?
Yes, it can, but this depends on the instrument, the jurisdiction, the intermediary's status, and the applicable rules. There is one important distinction here.
- OTC stock or OTC security. The instrument itself is not listed on a major national exchange and is traded outside one.
- OTC execution or off-exchange execution. The instrument may be listed on an exchange, but the specific client trade may be executed outside the exchange order book: for example through an ATS, a market maker, a systematic internaliser, or another off-exchange mechanism.
For example, a share may be listed on NASDAQ, while the specific client order is executed by a market maker or by the broker acting as principal, rather than necessarily entering NASDAQ's order book directly.
For the EU: what do MiFID II and MiFIR say?
In the EU, a "trading venue" under MiFID II includes a regulated market, an MTF, and an OTF. For shares, MiFIR is more specific: for shares with an EEA ISIN that are traded on a trading venue, investment firms must generally ensure that trades are executed on a regulated market, an MTF, a systematic internaliser, or an equivalent third-country venue, except where an express exception applies.
In other words, Europe is not a place where one simply "does OTC however one decides". A systematic internaliser is not an exchange, but it is an allowed MiFIR channel for executing certain share trades. MiFID II defines it as an investment firm which, on an organised, frequent, and systematic basis, deals on own account when executing client orders outside a regulated market, MTF, or OTF.
Xetra is a classic example of transparent exchange or organised execution: it has an order book and price-formation rules that are predetermined and public.
In the US: why can a listed share trade off exchange?
In the US, the fact that META is listed on NASDAQ does not mean that every client order necessarily enters the NASDAQ order book directly. Listed securities may have off-exchange execution, including through ATSs and other off-exchange venues.
FINRA publishes OTC statistics for trades reported by ATSs and member firms, including OTC activity outside ATSs. So "the share is listed" and "my specific order was executed on the exchange" are not the same statement.
Example: buying 8.456 fractional shares of META
Most likely, the entire transaction does not pass as one ordinary exchange trade for 8.456 shares, because exchanges generally do not trade shares in quantities below one whole share.
The usual model looks like this:
- the whole-share portion of the order, for example 8 shares, may be executed on an exchange, against a market maker, through an ATS, or another venue depending on the broker's routing policy;
- the fractional component, for example 0.456 of a share, is often handled internally: the broker may act as counterparty, aggregate fractional orders from many clients, or hold a whole share and allocate economic rights over parts of it.
That is why, with fractional shares, the client often has economic exposure to a fraction of a share, but that fractional component may not be transferable to another broker and may have to be sold when the portfolio is transferred.
When you buy "8.456 META shares" through an app, you should not automatically imagine that 8.456 shares entered the NASDAQ order book as one single order.
What should be checked?
Before making a tax, accounting, or legal statement about what exactly was purchased, the documents and the specific intermediary's terms must be reviewed.
- the trade confirmation or contract note;
- the execution venue;
- the broker's capacity: agent, principal, or riskless principal;
- the fractional share terms;
- whether the client has direct ownership, a contractual/economic right against the broker, an omnibus holding, or an internally allocated part of a whole share.
This detail matters for transfers to another broker, corporate actions, voting, dividends, and tax documentation.
The more precise wording
For client, accounting, or tax purposes, I would not automatically write "shares were purchased on NASDAQ". A more precise formulation is:
The client acquired exposure/a position in META through an investment intermediary; the specific place and method of execution should be established from the trade confirmation, contract note, execution venue report, and the intermediary's fractional share terms.
This publication is for informational purposes only and does not constitute legal, tax, or investment advice.
Sources and useful references
This article is for information only and reflects the law as of its publication date. It is not individual tax or legal advice.
Author
Marina Muchakova
Tax consultant with a law degree and over 15 years of experience in tax law.