Economist Analyzes OTC Stock Outcomes

An economist analyzed investment outcomes in connection with over-the-counter ("OTC") stocks. The white paper was prepared by economist Joshua T. White for the SEC Division of Economic and Risk Analysis. Mr. White examined (i) recent trends in the OTC stock market structure and size, (ii) the documented properties of OTC stocks, and (iii) differences in returns based on investor and stock characteristics.

Mr. White concluded that stocks on OTC Markets (f/k/a the "Pink Sheets") trend toward trading in the most opaque tier (i.e., the "Pink Tier") of the markets. The Pink Tier has no SEC reporting requirements. Specifically, Mr. White found that about seventy percent of quoted securities and eighty-five percent of dollar volume traded on the OTC Markets is concentrated in the Pink Tier. As a consequence, he said, the "overwhelming majority of OTC companies have considerable discretion in the amount of information they provide to investors." Mr. White stated:

This trend is potentially concerning because individual investors are the predominant owners of OTC stocks, and thus investor outcomes might suffer disproportionately from growing informational disadvantages.

Mr. White observed that academic studies show "that OTC stocks are predominantly illiquid, generate negative and volatile returns, are frequently targeted by alleged market manipulation schemes, and rarely transition to an exchange." He concluded that these negative characteristics of OTC stocks "worsen as eligibility requirements pertaining to disclosure are reduced," even though the size of the OTC market was large to begin with and has "grown by dollar volume in recent periods, especially in the tier with the weakest disclosure-related eligibility requirements."

Mr. White found that investor returns are "especially negative for investors living in areas with greater proportions of older, retired, low-income, low-wealth, and low-education individuals."