The Hand appears in the toilet of an outhouse in Lynna Village. The Hand is in need of paper and asks Link for some. Link can give the Hand the Stationery as part of the Trading Quest. In exchange, the Hand will give him the Stink Bag, the next item in the Trading Quest.
Link can throw various items into the toilet, including the Pot next to it, to cause different reactions from the Hand.
The concept of a hand in the toilet is based on Japanese ghost stories where a hand grabs from beneath the toilet whenever someone sits in the bathroom.
↑"It's actually something from a Japanese ghost story. Not a specific ghost story. There are some ghost stories in Japan where — when you are sitting in the bathroom in the traditional style of the Japanese toilet — a hand is actually starting to grab you from beneath." —Shigeru Miyamoto (Shigeru Miyamoto talks 'Legend of Zelda',' 'Mariokart')