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What are exchange-traded vs. over-the-counter (OTC) derivatives?​

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Exchange-Traded Derivatives (ETDs)

These are contracts that are traded on formal exchanges like
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• CME (Chicago Mercantile Exchange)
• Eurex
• ICE (Intercontinental Exchange)

Examples:

• Futures (like crude oil futures, gold futures)
• Options on futures
• Stock index futures

Key Characteristics

• Standardized terms (contract size, expiration, etc.)
• High liquidity (easy to buy and sell)
• Transparent pricing (live market prices)
• Clearinghouse involvement, which guarantees trades and reduces default risk
• Regulated by authorities (e.g., CFTC in the U.S.)

Who uses them?

Retail traders, institutions, hedge funds, and anyone who values liquidity and transparency.

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Over-the-Counter (OTC) Derivatives

These are private, customized contracts traded directly between parties, not on exchanges.

Examples:

• Forward contracts (custom agreements to buy/sell assets in the future)
• Swaps (interest rate swaps, currency swaps)
• Custom options or structured products

Key Characteristics
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• Highly customizable (tailored to specific needs: amounts, maturities, terms)
• Less transparent (prices and terms are private)
• Counterparty risk (depends on the creditworthiness of the other party)
• Decentralized market (bank-to-bank, or bank-to-client)

Who uses them?
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• Large corporations hedging specific risks
• Banks and financial institutions
• Investors with unique strategies or exposures

Final takeaway
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• ETDs: Best for liquidity, transparency, and low counterparty risk.
• OTC: Best for customization and unique hedging strategies, but watch for counterparty risk.

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