Over-the-Counter (OTC) Options are derivative contracts privately negotiated and executed directly between two parties, bypassing a centralized exchange. In crypto, these allow institutional investors to customize options contracts on digital assets with specific strike prices, expiration dates, and underlying asset quantities, often to manage large block trades without affecting public market prices.
Mechanism
The mechanism involves direct communication and negotiation between a buyer and a seller, frequently facilitated by a broker-dealer or a specialized OTC desk. Contract terms, including premium, collateral requirements, and settlement procedures, are mutually agreed upon. Execution and settlement occur bilaterally, circumventing the standardized contracts and clearing processes of regulated exchanges, though smart contracts may automate certain aspects of the agreement.
Methodology
The strategic approach for OTC options centers on customization, discretion, and mitigating market impact for significant positions. It enables participants to access liquidity for exotic options or specific risk profiles not available on public exchanges. The methodology requires thorough counterparty risk assessment, robust legal documentation or smart contract provisions, and careful management of collateral, especially given the typically less regulated nature of OTC crypto derivatives.
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