The spot market, also called the over-the-counter (OTC) market, is an alternative to exchanges. There are some key differences between OTC and exchange traded derivatives:

1. OTC trades typically are larger and privately negotiated with specialized terms
2. OTC market is four times the size of exchange-traded derivatives market
3. Exchanges offer better liquidity and transparency
4. Exchanges reduce risk of counterparty default
 

Rather than using computerized electronically processed matching engines for trades, the OTC market transactions are often done over the phone between two people brought together typically by a bank. The traders are usually from financial institutions, although since the late 1990s the number of individual traders has been increasing. Nonetheless, individual retail traders comprise a small percentage of traders in the OTC markets.

The banks bringing together the traders in the OTC market are always prepared to quote both a bid price (the price they are willing to pay) and an offer price (the price at which they are willing to sell). Because of the more personalized nature of the OTC market, the trades are typically much larger with specialized, specific terms. A single contract can have as many as 80 to 100 variables of terms or conditions. Because each trade is negotiated specifically with another party, the OTC market offers increased flexibility but also presents the risk of the traders defaulting on the agreement.
 

The OTC market is nearly four times larger than the exchange-traded markets, with more than $500 trillion in notional value being traded annually. The Bank for International Settlements (www.bis.org) estimates the gross market value of all OTC contracts to be more than $10 trillion.

There are OTC markets for Treasury securities, foreign exchange, oil, and all other products covered by futures exchanges. The difference is the OTC market has no centralized meeting place, and no fixed opening and closing time. In fact, some foreign exchange dealers maintain 24-hour-aday operations. Some of the major banks with OTC trading desks include Goldman Sachs, UBS, Credit Suisse and Merrill Lynch.

Most of the foreign exchange business in the spot market is done by banks, but there are other participants. Some large multinational firms maintain extensive foreign exchange trading departments. Currently there are a few wholesale brokers in New York and other large financial centers who buy and sell large blocks of foreign currencies among the banks at very small commissions.
 

Millions of currency transactions take place daily between citizens of different countries. Because it would be extremely difficult for someone who needed, for example, Swiss francs, to find an individual who has them for sale, the foreign exchange market has developed a way for buyers and sellers to readily get in touch with each other. Historically, banks have handled this service.