The Wizard of Oz is a favorite classic movie over the
festive season. In an iconic scene, the titular character is
initially presented as a “great and powerful” green head,
with a booming voice, surrounded by flames
and red smoke.
But when Toto tugs at the curtain, the ‘Wizard’ is revealed
to be a bungling old man who isn’t great or powerful, or
even particularly good at magic. Dorothy placed her hope
in a person whose power rested on a well-maintained
illusion. Her quest for a return to Kansas doesn’t rely on
external forces – it’s just a question of tapping her shoes.
Like Dorothy, markets can fall for illusions too. One of the
most enduring and misunderstood is the over-the-counter
(OTC) market for cryptocurrencies, and in particular Bitcoin
(BTC) .
An OTC trade is a transaction that takes place privately off-
exchanges. It comprises a buyer and seller and –
sometimes – a broker to mediate between the two parties.
The main advantage of the OTC market is that it’s a private
affair between the involved parties. Large trades will
generally move the price of an asset on exchanges – but
through OTC, parties can trade with minimal market
disruption.
Although there’s no definitive metric, OTC market
participants are often institutional players, family offices, or
high-net-worth individuals (HNWIs), otherwise known as
‘whales’.
Many people believe the OTC market to be huge, with
trading volumes far larger than those on exchanges – but
what exactly constitutes the OTC market is often
unexplained.
Insiders say the reality and the illusion are confused by the
fact that there are two types of OTC trading – and while
brokerage trading is described (by multiple sources) as
“bullshit”, the principal market is very green, very powerful,
and very much the Wizard of L. Frank Baum’s imagination.
Principal OTC: The Real Money
Principal trading is where the money’s at. One report,
published in April by the research and consultancy firm
TABB, suggested the OTC market for Bitcoin was
approximately triple the size of the exchange market.
But at QCP Capital , one of the most active digital asset
traders in Asia, Head of Trading Darius Sit confidently
declares that the OTC market for principal trading is nine or
ten times the size of the volume that mere mortals see on
CoinMarketCap on any given day – and since CMC is
widely-considered to present inflated volume, the real
multiple could be even higher.
“OTC market makers account for up to 80% of true crypto
trading volume,” says Sit. “This means there’s no bullshit
escrow, proof of coin or funds – instead you work with a
professional trading desk that provides a price for a large
size trade, for example anywhere from 500k to 20m USD in
a single clip, off exchange with minimal impact on the
market.”
Sit is adamant that despite (or perhaps because of) the
crypto slowdown, the proportion of trades conducted OTC
has actually risen. “OTC trading has gone up with the huge
use case for stablecoins in Asia – these tokens are being
traded in huge volumes very actively off-exchange.”
Principal trading at the large scale – where the likes of
QCP, Cumberland, and Octagon operate – depends on
bank-grade KYC and AML, since the firm itself (or its
liquidity provider) is taking on the risk of the transaction.
Unlike brokers, principal firms make a market for the trade
– and the price provided includes the assumption of risk
and potential slippage.
OTC Brokerages: Where Money Talks And Bullshit
Walks
A broker is someone who finds a buyer, finds a seller, and
then takes a cut when he or she hooks the two up. They’re
the Tinder of crypto: matchmaking where they can, always
looking for new fish.
One firm that deals in these sort of trades told Crypto
Briefing that the OTC brokerage market isn’t as big, or
anywhere near as glamorous, as people think. David
Thomas and Karl Thompson are the co-founders of Global
Block, a Mayfair-based cryptocurrency broker. Established
in February 2018, one of the services they provide is an OTC
brokerage acting as an intermediary to enable the deal to
take place smoothly.
Thomas, who comes from a forex background, and
Thompson, who was previously in equities, say the OTC
brokerage market is generally comprised of inexperienced
parties that can be difficult to work with. Whereas the
traditional markets have streamlined procedures, no such
thing exists in the cryptocurrency sector.
This is made worse by a lack of experienced deal makers
and brokers, which can sometimes lead to bizarre requests
or outcomes. Thomas said that a good example was one
person who wanted to do the initial meet in the lobby of a
Zurich hotel the following morning; “even though he wasn’t
actually based in Switzerland”, he adds.
Thomas explained that the vast majority of OTC trades are
baseless. “I would say 95% of trade in the [OTC] space is
all bullshit”, he said. In their experience, many people who
approach them with a potential deal are not the real sellers,
or don’t actually have the amount they say they do.
In one particular deal, Thomas says, two Global Block
associates had arranged to meet a proposed seller at the
end of the day to discuss terms and confirm proof of funds.
After two hours of waiting and being told he would be there
shortly, they left and found him in a nearby pub. “The guy
was basically getting pissed and didn’t even have the funds
on him”, he said. “I know so many people who have wasted
a lot of time on what turns out to be these type of OTC
trades”.
A Lack Of Trust
Crypto Briefing spoke to other firms involved in the
brokerage market. Albert Song is the Business
Development Lead for GSR, an algorithmic digital asset
trader. In an email, Song agreed that the vast majority of
OTC trades don’t actually happen; one of the main issues
that they come across is the seller not having the funds.
“99% of OTC deals do not go through”, wrote Song. “From
what we’ve gathered, there also seems to be a mishap at
the last second, in which either the buyer doesn’t actually
have enough funds to complete the trades, or the coins
were not real. It’s hard to say whether deals are fake
unless one defines deals that are not successfully
completed as fake. However, some of the trade notionals,
economics, and procedures of OTC deals floating around
the market certainly seem questionable.”
According to Thompson, part of this difficulty stems from a
lack of trust in the sector. Established financial markets
can rely on a trusted centralized counterparty, like the
London or New York Stock Exchanges, but there is no such
equivalent in cryptocurrency. “People are very guarded
with their flow, which makes it hard to broker any sort of
deal,” he says.
Although large trades – tens, or even hundreds of
thousands of Bitcoin – may occur occasionally, Thomas
says they can take a long time to put together. As well as
proof of funds, it can take time for the legal teams to
draw up the contracts and, in some cases, prepare non-
disclosure agreements (NDAs). The number of people who
can sometimes be involved in one individual trade can slow
things down even more.
For Thomas, most OTC trades are far smaller than people
think. The “sweetspot” that they look out for ranges
between 100-1000 BTC. Any more than that and it’s
unlikely that the seller has the funds. “Most of the time it’s
a potential deal with a mate of a mate who has something
like 20,000 BTC they want to sell,” Thomas said. “It’s like
people think you came down in the last rain shower”.
Song agrees with this, saying that it’s highly unusual to
hear about a Bitcoin OTC brokerage trade going above
1,000 BTC. “With the exception of a few blocks here and
there, I’d agree that the average trade size falls below 1,000
BTC,” he wrote. “This may change depending on what’s
going on in the market and price action. While there are
certainly exceptions, most trades we hear about are
between 100 and 1,000 BTC.”
Not Measuring The UnmeSPAM BANble
Unlike exchanges, where anyone can see real-time trading
data, there’s no way of knowing the true scale of the OTC
market. Like public exchanges, it almost certainly
fluctuates based on market sentiment and developments.
There’s just no way of being able to show this conclusively.
Darius Sit suggests that it wouldn’t be an exaggeration to
say that “99.99% of the notorious ‘I-have-10,000-BTC’ to
buy/sell block trade deals are fake” .
Both Song and Thomas agreed that in brokerage, a lack of
trust and standardized procedures means
miscommunication is a problem. Trade deals that should
only really involve a buyer, seller and broker, could
sometimes have many more parties all looking for a
commission.
Song said that this often created long and complicated
chains, which also prevented many OTC deals from taking
place. He said: “Whenever that happens, information
becomes skewed and its transfer is delayed, and brokers
tend to make it difficult to get to the actual end buyers and
seller due to fear of getting cut out”.
Without any real information, the sector can blow the
brokerage market’s significance way out of proportion.
Instead of a mighty figure dwarfing a market predominantly
made up of retail investors, OTC brokers could be far
smaller and somewhat less mysterious.
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