In the world where Blockchain has become a global phenomenon, it is important to know the basics of trading. Hopefully, this brief overview will be helpful enough to make a choice for a hesitant trader or to simply broaden one’s horizons.
Centralized crypto exchanges
To be centralized means to trust somebody else to handle your money.
Centralized crypto exchanges are most similar to traditional stock markets. Imagine a situation — if you want to purchase Bitcoin (at a set price), your order will be automatically connected to the matching sell order by the platform itself. This convenience, however, comes with a price as the platform collect their fees.
Centralized crypto exchange platforms are owned and operated by a company that has a total and complete control over all the transactions made through their system which is entirely based on trust.
The clients of centralized exchanges also do not have access to their private keys. This means that the user of a taken exchange puts all the trust in the hands of the operators of the platform.
Examples of Centralized exchanges- Binance, Poloniex, Bittrex, Bitfinex, Upbit, GDAX
Decentralized Crypto exchanges
Decentralized crypto exchanges, unlike their centralized counterparts, do not require any third party involved to perform their operations.
The system of a decentralized exchange is quite simple, too. Let’s take the same example from the paragraph above. You want to buy one Bitcoin. A decentralized exchange will match you with a person behind a selling order (putting it simply, with a person who wants to sell one Bitcoin). From there, you and another user will negotiate and finalise the trade.
Examples of Decentralized exchanges- IDEX, Local Bitcoins, Stellar Dex, Kyber Network, Airswap
The issue of trust
On January 10th, 2018, Kraken a fairly big centralized exchange went down for what was promised to be a 2–3 hours of maintenance work. This turned out to be untrue and 40 hours of darkness followed.
The fact that everyone’s funds are solely controlled by Kraken should be troubling. The private key to access all your cryptocurrencies is not with you but with them, meaning that if exchange goes down or is breached, all your funds are gone. Since cryptocurrencies are highly volatile and listed on hundreds of secondary markets, a 40-hour downtime means major losses for the user in terms of opportunity costs.
A Centralized exchange is controlled by a central authority and not by users, so the entire system is based on trust. But, in the case of Dex, customers do not have to worry about their cryptocurrency being secure when using such kind of a platform, as coins are not held by the exchange.
Problem with current decentralized exchanges is that they provide for a horrible user experience and confusing steps/transactions. In a centralized exchange, you press trade and things just happen in the background while in a traditional decentralized exchange there are multiple transactions involved to exchange one cryptocurrency to another. Cex usually has more advanced features and tools but are still easy to use. Dex has to do better than a current centralized exchange if it wants to become a viable alternative. Most importantly, the usage of decentralized crypto exchange platforms is not for a complete beginner (DeX are not as easy to use as Cex).
- It has to be easier to use.
- Provide more trade options.
- Be more affordable.
As mentioned above when we talked about trust, the security of your funds and private keys lies in the hands of centralized exchanges, which often times do not employ the highest security standards. There is always a risk of a hacker attack on big centralized exchange platforms. Users don’t have access to private keys which means if it is an inside job or private keys are not insured users can lose all of their coins. To overcome this most of the leading CeXs are offering insured accounts.
DeX, on the other hand, is more private. As it was told above, centralized exchanges often require personal information and proof of one’s identity. When using decentralized exchange platforms, the only person you have to disclose your identity to is the person you are making a trade with. While the process of trading on centralized exchange platforms is not anonymous and requires documents for some of the features. On, the other hand accounts on DeX platforms are uninsured.
Speed and Cost
When it comes to speed currently distributed networks cannot compete with centralized ones so as far as speed is concerned, centralized exchanges have the upper hand.
This is not the case, however, if you have to move the funds from your desktop wallet to your wallet on the centralized exchange.
One of the main problems of DEXs is the problem of liquidity. Current DEXs do not have enough liquidity to compete with centralized exchanges and there are not enough market makers that could pull in a significant amount of takers.
Centralized exchanges actually have a higher trade volume than their decentralized competitors. Liquidity is rather high.
Decentralized platforms have smaller audiences, so finding an acceptable deal can become challenging hence the issue in lower trading volumes. The same issue impacts entry and exit from the markets — if it is harder to sell cryptocurrency, it is harder to liquidate it into cash.
Decentralized exchanges are still a work in progress. Probably, now they are not as developed and massive as the centralized exchanges, It can be even said that now they are slightly overlooked, but, definitely, in the nearest future, there will be a tendency to switch to more decentralized models. After all, the whole world of cryptocurrency carries the idea of decentralizing.
To conclude, it is necessary to say that the choice of Dex or Cex almost completely relies on the goals the user wants to achieve.
Liquidity can be achieved more successfully when using centralized crypto exchanges. In contrary, if the goal of the taken user is anonymity, putting decentralized exchanges in favor is obvious. The advice is — understand your goals, evaluate your knowledge and choose wisely between the two options!