When you’re in a rush to buy or sell crypto, you always head to an exchange. It seems obvious, but this poses a question - what is really a crypto exchange? Should you choose an established centralized exchange like Binance or go for a more offshore decentralized exchange? Let’s dive deeper into the topic of exchanges.

What is a cryptocurrency exchange?

Before we start bringing up more complex topics, let’s start with a definition. A cryptocurrency exchange is a platform where users or institutions can buy and sell cryptocurrencies either for fiat currencies or other crypto.

The purpose of a crypto exchange

The goal of a crypto exchange is, just like any other company’s, to make money. How? By creating a system that matches orders and connects buyers and sellers. This way, not only does it provide value to users who want to trade, but also the exchange benefits by taking a small commission from every trade.

Are crypto exchanges safe?

Both centralized and decentralized exchanges undergo multiple third-party audits to ensure security. Nothing in this world created by humans, however, is free of errors. These vulnerabilities can be exploited by persons with malicious intentions, and just like that, user funds are stolen.

Mt. Gox, a Japanese Bitcoin exchange, which operated when Bitcoin was relatively new and was handling over 70% of volume at its peak. In short, the exchange claimed to have found suspicious activity in its wallets, and it turned out that the exchange was missing hundreds of thousands of Bitcoins. The exchange filed for bankruptcy shortly after.

Decentralized exchanges, which use smart contracts to facilitate trades, are essential to DeFi ecosystems but also prone to various exploits. Within the decentralized finance sphere, billions have been stolen over the years, whether from decentralized exchanges, cross-chain bridges, lending platforms, or functional projects.

What is a centralized exchange (CEX)?

A centralized exchange is a platform managed by a simple company. They are essentially the middlemen, which enable users to buy and sell cryptocurrencies. To use a CEX, you need to deposit funds into the exchange’s wallet. This effectively places the funds in the custody of the said exchange, effectively requiring trust from the user. You should thoroughly research the market and find the exchange that suits your needs and is regulated. Always aim for the most popular ones, because they are usually the safest, but it has not always been the case, as the collapse of FTX has shown.

How centralized exchanges operate

Centralized exchanges are known for the large liquidity, which is a combination of different factors. Order books list both buy and sell orders for each trading pair, providing you with information about the market depth. Exchanges use advanced matching engines to match buy and sell orders, maintaining high efficiency and nearly no latency.

Products offered by centralized exchanges

Before even testing all the features of an exchange, the user is required to complete a KYC procedure. Know Your Customer is a standard process that ensures compliance with regulatory authorities and prevents the exchange from being used for fraudulent activities like money laundering.

CEXs typically offer various financial products for you to choose from. After all, the more you do with your money, the more the exchange profits. Features usually include spot trading and futures trading. Established and more developed exchanges incentivize you to learn and earn crypto in return, offer custodial staking services, borrowing and lending, or even trading options.

Centralized exchanges use different infrastucture, are more regulated and have higher liquidity.

What is a decentralized exchange (DEX)?

Unlike centralized exchanges, decentralized exchanges are designed to operate without any central authority. These exchanges are not custodial, so users retain control of both their private keys and funds when trading.

How decentralized exchanges operate

Smart contracts, which are self-executing contracts with predefined terms, are a crucial component of DEXs. They settle trades directly on the blockchain. In contrast to CEXs, there are typically no traditional order books. Instead, DEXs rely on the AMM model, which stands for Automated Market Makers. What it does is it calculates the asset price based on the proportions in the underlying liquidity pool. This makes trades super easy to understand and nearly instant—a great plus. 

On the other hand, if the liquidity is tight, you may expect a hefty price impact, and in some cases, exchanging won’t make sense financially. A liquidity pool is a smart contract that holds combined assets of liquidity providers, users who participate in supplying liquidity in exchange for trading fees and rewards.

Decentralized exchanges are managed by communities, and a DAO is an entity that represents the interest of a community. Through governance, holders can propose and vote on different ideas, which will further improve the protocol.

Decentralized exchanges utilize smart contracts, liquidity pools and governance. DEXs give a sense of privacy, but their fees are less predictable.

DEX vs CEX. Which one is better?

While on the surface both types of crypto exchanges seem similar, there are many notable differences, which we should take a look at.

Control

By depositing assets into a centralized exchange, you hand over the control over your assets and allow the exchange to manage them on your behalf.

On a decentralized exchange, the assets are held directly in your wallet, and you have complete control over your private keys. In some rare cases when trading futures, you may be required to deposit assets to a smart contract, which is a buffer between you and the exchange and ideally should be controlled by no one.

Security

Both types of exchanges implement robust security measures, but the difference always lies in details. Centralized exchanges focus on their internal systems and cold storage, making them as secure as possible. Decentralized exchanges rely on the security of smart contracts and the blockchain they work on.

Privacy

Most centralized exchanges require KYC and AML procedures, collecting personal data to comply with regulators. If a CEX does not require any documents to trade, it doesn’t mean it’s a scam, but it should act as a red flag.

In contrast, DEXs do not require any documents and allow for greater privacy and pseudoanonymous transactions.

Liquidity

Centralized exchanges generally offer far superior liquidity and trading volume, while decentralized exchanges may experience lower liquidity, thus increasing slippage. This is especially true when trading low-liquidity pairs like new tokens or memecoins.

Fees

Either exchange type tries to be transparent in presenting and communicating their fee structure. Centralized exchanges tend to be more predictable in terms of fees, as trading and withdrawal fees are usually constant. In the case of decentralized exchanges, trading fees include liquidity provider fees and transaction fees. When it comes to transaction fees, they may vary slightly depending on the network of choice.

Binance or Uniswap—who is the winner?

Which crypto exchange is suitable for you?

Choosing the right platform can be complicated, but it doesn’t have to be. Let’s see when you should use a CEX over a DEX and vice versa.

Why you should use a centralized exchange

Centralized exchanges are great for beginners who are just starting out. High-frequency traders benefit from many tools and rapid trade execution, not reliant on any blockchain but the exchange’s infrastructure. Also, if you plan to jump from crypto to fiat currencies, CEXs may be a better option too.

Why you should use a decentralized exchange

DeFi enthusiasts will always choose a DEX, perhaps because it’s such a great experience to connect a wallet and swap tokens or maybe because they see this as the future of finance. Who knows? You can’t deny it offers global accessibility, even to users living in sanctioned areas, and empowers them to exercise control over their assets. With freedom, however, comes great responsibility.

New technological innovations

We can’t always be sure what tomorrow will bring, but a bit of speculation won’t hurt. Decentralized finance may be endangered by ongoing regulatory frameworks, which will either force them to adopt KYC or be blocked in the region. With the development of new technologies, scalability won’t be a problem, and almost every DEX will support cross-chain transactions, making applications and DeFi accessible to everyone.

Artificial intelligence has been a hot topic recently, and it may evolve into a helpful tool for enhancing the security of crypto exchanges and searching for exploits in code. With the assistance of machine learning, users will probably also receive recommendations based on their usage patterns.

AI will shape the next generation of security mechanisms in crypto exchanges.

Most popular CEXs and DEXs

There are plenty of crypto exchanges, each competing for a fair market share and users by offering even lower fees and improved services. Not all exchanges are created equal, so if you hope for your funds to weather the storm, these should be your top picks.

Most popular centralized exchanges

Your best bet in the centralized exchange market is Binance, being the largest crypto exchange with the highest liquidity available. Coinbase follows soon after with its focus on beginners and emphasis on regulatory compliance. The last one is Kraken, which is for both novice and experienced traders and has been in the market the longest, with its origins dating back to 2011.

Most popular decentralized exchanges

The pioneer of the other side is Uniswap, with its large liquidity, which started on Ethereum but expanded to many more networks. DYDX is the next one if you’re looking to trade derivatives and use leverage. Last but not least is PancakeSwap, which used to be only available on Binance Smart Chain. It started small with an anonymous team and made it big.

A simpler way to buy crypto

If you don’t want to touch any crypto exchanges and seek a simpler solution, Swapped.com may be just for you. Our platform lets you buy cryptocurrencies using 30+ available payment methods. Give it a try and experience a top-notch platform with the lowest onramp fees on the market.

In search of a better solution

Will anything change, and will one type of exchange triumph over the other? Very unlikely. Either exchange fills their niche and will likely continue to coexist. Centralized and decentralized exchanges will have to adapt and somehow overcome upcoming obstacles. Perhaps a new solution will appear, a hybrid connecting and offering the best of both worlds.