What is a cryptocurrency exchange?

A cryptocurrency exchange (crypto exchange) is a platform that promotes the trade of cryptocurrencies using digital money, fiat money or other assets. These exchanges are the intermediaries between parties and make money from transaction fees and commissions. It is also be called a digital currency exchange or DCE.

Like other traditional exchanges, it is also a system that operates the buying and selling of digital assets. For instance, $ 1,000 can be exchanged for any cryptocurrency of an equivalent value. And any cryptocurrency (like Bitcoin) worth $ 1,000 can be exchanged for another currency (like Ether) of equivalent value. This same concept is followed across the currencies which are being traded on the exchange.

A typical crypto exchange operates 24/7 and never closes. In this exchange, the identities of the buyers and sellers remain anonymous. Cryptography ensures that transactions happening across the crypto exchanges are fully secured.

What are the major types of cryptocurrency exchanges?

The five major types of cryptocurrency exchanges are described below:

• Retailers: A retail exchange provides an intuitive interface. A person with no experience also understands where all the critical elements are placed. These platforms provide crypto wallets to facilitate transactions easily. It is advised not to store all your funds in these wallets because if the services have been tampered with, one can lose their stored funds. Coinbase and Kraken are examples of retail crypto exchanges.
• Peer-to-Peer (P2P): A P2P crypto exchange provides a platform for two individuals to connect and trade. It is also known as a crypto marketplace, where the trader can directly reach out to the vendor and negotiate. P2P exchanges provide two types of services. First, a person can change money anytime without creating an account. Second, one can opt to go under the proper identification process.
• Decentralized (DEX): It is a non-supervised exchange that does not handle others’ funds independently. It uses software that automatically transfers money from a wallet to another wallet. These exchanges maintain privacy and secure the funds as they are not stored under the service. However, if the money is transferred to an incorrect wallet address, the service cannot reverse it.
• Instant Exchangers: Similar to DEX, it is also a non-custodial crypto exchange, but its interface is easy to operate. They provide vast choices of currencies, and the transactions are executed instantly. Changelly is an example of an instant crypto exchange.
• Derivatives: To trade in derivatives it requires a lot of investment knowledge. This exchange provides high-leverage instruments and builds good investment knowledge. BitMex is an option to trade in cryptocurrency derivatives.

Frequently Asked Questions (FAQs)

1. What is a centralized cryptocurrency exchange?

A centralized cryptocurrency exchange (CEX) conducts transactions between buyers and sellers; it acts as a third party or middleman. The buyers and sellers trust these middlemen to handle their assets, safely execute transactions, and use a network of users in the exchange to find potential trading partners. Some examples of centralized exchanges are Coinbase, Kraken, etc.

Advantages

• User-friendly: Centralized exchanges offer a user-friendly interface and are beneficial for beginners to start crypto trading. It avoids using peer-to-peer transactions and crypto wallets. It is similar to the banks enabling the user to view the account balance and trade using applications and websites.
• Reliable: It offers an additional layer of reliability and security when it comes to trading and transactions. It delivers a high level of comfort by facilitating the transaction through a secure and centralized platform.
• High liquidity: It offers high liquidity as the users find this medium highly secure, and the buyers and sellers are verified and trust the middleman.

Disadvantages

• Hacking risk: These centralized exchanges are operated by large corporates and are responsible for holding their customers’ funds. These corporations hold billions of worth of cryptocurrencies, making them a target for theft. For instance, in 2014, Mt. Gox, one of the largest crypto exchanges, was robbed of 850,000 bitcoins.
• Transaction fees: These exchanges charge high transaction fees for their services and the convenience they provide.

2. What is a decentralized cryptocurrency exchange?

A decentralized cryptocurrency exchange (DEX) is a peer-to-peer platform connecting cryptocurrency buyers and sellers. A DEX is a non-custodial platform where users have control of their own private keys. It uses smart contracts that automatically execute the transactions between trading parties once all the conditions are met.

Advantages

• Custody: Under DEX, traders do not need to relinquish their private keys’ control. The transactions are completed using smart contracts.
• Diversity: DEX provides an opportunity to engage in digital assets. Unlike CEX, many altcoins and peer-to-peer transactions are included in this exchange.
• Mitigates high-risk: Users of DEX are not required to transfer assets to a third party. It eliminates the risk in the event of an organization being hacked, and the users are assured of safety.

Disadvantages

• Complex: Users of DEX must learn and get familiar with its process and remember the passwords and keys of their crypto wallets.
• Lack of fiat payments:DEX does not allow for trading fiat currencies in exchange for digital currencies.
• Lack of liquidity: DEX does not offer high liquidity as it is challenging to find sellers and buyers with low trading volumes.

3. What is a crypto wallet?

A cryptocurrency wallet is an application allowing users to retrieve and store digital assets. These applications can be used on smartphones and computer systems. A crypto wallet provides full control over the private key to its users.