CFM13050 - Understanding corporate finance: derivatives: exchange-traded and ‘over-the-counter’ products

Exchange-traded and OTC contracts

Derivatives can be either exchange traded or entered into and settled ‘over the counter’:

Exchange-traded means that standardised derivatives are bought or sold on an established investment exchange, such as LIFFE (the London International Financial Futures and Options Exchange) (CFM13060). The contractual arrangements will refer to a specific standardised underlying for delivery or valuation on a specified date. The standard creates a large number of identical contracts to permit a liquid market in the derivative.

Over-the-counter (OTC) derivatives are normally bespoke contracts which are written by a bank or other financial institution to meet the requirements of a particular client. But the term can also include highly standardised derivative products traded off-exchange rather than under the rules of an investment exchange. (CFM13070).