Are you a beginner in crypto investing and are confused between DEX and a centralized exchange? Then you are in the right place. We are going to demystify the concept of crypto exchanges with strong reasons why you should or shouldn’t choose them.
What is a crypto exchange?
A crypto exchange or a digital currency exchange is a place where people buy & sell cryptocurrencies for fiat money.
The places are also facilitated with enough liquidity to exchange one cryptocurrency with another cryptocurrency.
What does a crypto exchange do?
In simple words, Crypto exchanges are similar to Foreign exchanges, where people exchange dollars for rupees. They also trade in different currencies. Similarly, in a crypto exchange, people can buy or trade in different digital currencies.
A crypto exchange is a stage where the business of buying and selling cryptocurrencies occurs.
Some people like to trade in cryptocurrencies, while others like to invest in the long term in them.
Whether it is investing or trading in cryptocurrencies, people have to open an account in these exchanges to facilitate the same.
How many types of crypto exchanges are there?
There are 2 types of crypto exchanges. They are
Centralized crypto exchange
Centralized crypto exchanges (CE) are the standard exchanges similar to NASDAQ.
They are backed up by an organization and are regulated with few rules. A person who wants to invest or trade through centralized exchanges has to open an account and link them with their government approved ID cards (Know your customers – KYC process).
In simple words, they act as an intermediary between the buyer and seller and scrutinize every crypto transaction.
They are reliable and take responsibility for smooth transactions. In case of any difficulty or queries related to crypto transactions, they have a specialized support team to help you out.
Unfortunately, very few crypto exchanges are centralized exchanges. Out of them the most popular exchanges in 2023 are
- BINANCE (We personally use)
- Coin DCX (We personally use)
- Coin base
Decentralized crypto exchange
Decentralized Cryptocurrency exchanges (DEX) are completely new trading platforms where peer-to-peer (P2P) transactions occur.
Unlike centralized exchanges, DEX does not require any KYC (Know your customers). You can simply log in anonymously and swap one cryptocurrency with the other.
In simple words, a buyer finds a seller and vice versa in the DEX. Once the buyer and seller agree, then a transaction will be initiated and a cryptocurrency exchange will occur.
The concept of decentralized Exchange or DEX is new. There will not be any centralized third party involved in your transaction. It is purely a transaction between a seller and a buyer.
Both buyers and sellers use a platform that is owned or run by no one as the data in the platform are decentralized.
Here is the list of top DEX
- Uniswap (we personally use)
- Pancake swap (we personally use)
- Sushi swap
- Bakery swap
- 1Inch
- Zapper
Which one to prefer?
Ok! Let me be clear. IF YOU ARE A NEW INVESTOR OR TRADER IN CRYPTOCURRENCIES, NEVER USE DEX.
IF YOU ARE AN INVESTOR AND NOT A TRADER, ALWAYS USE CENTRALIZED EXCHANGES.
Here is why should I use centralized exchanges.
Government scrutiny
Regulatory concerns are increasing day by day regarding crypto transactions.
Most of the centralized Crypto exchanges will come under the scrutiny of the central government once it passes the cryptocurrency bill in parliament.
Hence you will be in safe hands if you invest through centralized exchanges.
On the other hand, DEX is not regulated by anyone. The government may not consider the DEX exchanges, as they do not abide by the rules imposed. DEX exchanges are the most unregulated exchanges in the crypto industry.
Hence any transaction through DEX may be considered illegal in the future, as the accounts in DEX are not under scrutiny.
The centralized exchanges are way more regulated than DEX. You may require a Pancard and an AADHAR to open an account in centralized crypto exchanges. On the other hand, anyone can open an account in DEX. This may lead to money laundering and other illegal activities through DEX.
As the Governments’ thinking is on similar lines, they may impose restrictions and rules on DEX transactions in the coming future.
Security
The transactions in centralized exchanges are more secure. Any failed transaction can be bought to the notice of the exchange, and the support team will find the right solution for you.
The transactions in DEX are completely different. The DEX environment is completely different. There will be multiple offers from the buyer’s end and the seller’s end. A buyer checks all the offers from the sellers, then decides to make a deal with one seller, whose selling price is within his range.
Then the buyer and seller will come into a contract and a mutual exchange of currency occurs. These transactions are not authorized by any third party, instead, they are processed with the help of smart contracts.
Unfortunately, if any one of these transactions fails, it’s the end of your deal. No one will help you out in processing your transaction.
The buyer doesn’t know who the seller is and vice versa. Hence crypto transactions in DEX are riskier and require a lot of patience. It has a learning curve and should be used cautiously.
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Liquidity
Liquidity is the ability to cash your crypto investment by selling it. In simple words, let us think John wants to sell his bitcoin, which he was holding for the past year.
At the same time, he wants to buy Ethereum in exchange for Bitcoin. So he has to find a seller who wants to buy Bitcoin from him and sell Ethereum in exchange.
So, if he finds more people who are exchanging Ethereum for Bitcoins, then we can say that there is more liquidity for the BTC-ETH pair.
On the other hand, if John wants to sell his BTC and buy DOGE in exchange, he may not find a seller who is selling DOGE. As DOGE is in boom and is constantly raising in price, no one wants to sell DOGE right?
As a result, he may not find a DOGE seller. Such situations occur when the liquidity is less for the BTC-DOGE pair.
Centralized exchanges invest a lot of money to run the exchanges. They provide the best liquidity when it comes to trading volumes.
The fact is that most of the DEX liquidity is backed by centralized exchanges as maintaining liquidity is the toughest part of DEX.
Moreover, each centralized exchange will have enough INR reserves to curb liquidity issues. Hence we can consider centralized exchanges a bit more stabilized when a liquidity crisis arises.
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On the other hand, maintaining liquidity is the toughest part of DEX. These exchanges organize liquidity pools and yield farming for maintaining liquidity in the exchanges.
But they also pay high-interest rates for their stakes and investors for staking their cryptocurrency. High-interest rates are bad for any running business.
You may think, a liquidity crisis is not occasional. It’s rare. But unfortunately, it’s the other way in Crypto markets. These markets are hight volatile and news-based. Hence any crypto trader has to face huge price swings.
Markets can even crash by more than 30% in a day. This is insane right? In such situations, a huge liquidity crisis will arise. All the investors will sell their positions to book profit or loss which creates a bottleneck for many exchanges.
In such situations, you are a bit secure, if your investments are backed up by a well-regulated centralized exchange.
Price fluctuations
Centralized exchanges provide incentives and also promote trading to increase the volumes and liquidity of cryptocurrencies.
When liquidity increases, the prices of these cryptocurrencies become stabilized as the demand and supply are within reachable limits. As a result, the prices of these Cryptos will not have huge variations.
On the other hand, DEX only organizes liquidity pools. Some cryptos may not have enough supply for their demand. As a result, the prices skyrocket and make the markets volatile.
Hence we tend to see more volatility in prices in DEX compared to centralized exchanges. This is not good for a novice investor or trader.
Fiat exchange
Most DEX does not support local currencies. It means you cannot buy crypto with your money if you are outside the USA. Moreover, if you intend to use only DEX, then you have to convert rupees into dollars and can pay only using a Credit card.
On the other hand, you can buy cryptocurrencies by depositing money in your account with centralized exchanges. It is almost similar to a Demat account you hold for the share market. If you want to trade in DEX, then you have to open a centralized exchange, then buy cryptocurrency using rupees and then transfer the cryptos to the DEX.
It seems to be simple when you buy cryptos. But the toughest part is to get back your money in rupees. That’s the main problem when you sell your cryptos in DEX.
Selling Cryptos in DEX can be done only in other cryptos or USDT. So, you cannot encash the profits in rupees. On the other hand, centralized and standard exchanges provide you the liquidity to encash your profits in rupees.
Some advantages of DEX over Centralized exchanges
There are a few advantages to using DEX over centralized exchanges. Yes! You heard it right.
Fast listing
If crypto has soaring support in the masses, the price inflates within a short span of time. Hence Crypto investors usually try to buy good crypto as early as possible, before the price starts to rise.
For example, the ERC token Immutable X is a good crypto investment in 2022. It was launched in the month of November 2021. Within a span of 2 weeks, the price has gone up by 3X (3 times or 300% return).
Unfortunately, till December 2021, it was not listed in any reputed centralized exchange.
Hence anyone who is interested to buy Immutable X has to buy them for a DEX like Uniswap.
Hence DEX has the advantage of listing a new coin as early as possible. So, you can buy the coin at the lowest price possible and can expect the highest return on your investment.
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Hacking in centralized exchanges
Centralized exchanges are vulnerable to hacking. Yes! As you store your cryptocurrencies in their accounts, they may be attacked easily. There are multiple instances reported in the news, where the customer’s info was breached and their accounts were compromised.
In 2019 a total of twelve crypto exchanges were hacked and nearly 300 million dollars worth of cryptocurrencies were hacked.
In 2021 more than 20 hackings were reported where more than 20 million dollars worth of digital currency was hacked.
On the other hand, you will not store any cryptocurrency in the DEX. You will be storing them in your cold wallets, which are connected to the net only during a transaction.
With the increase in the instances of this digital bank robbery, centralized exchanges have come up with few solutions. One of them is Cold storage.
The crypto assets which are in cold storage are kept offline. It means that no one can access the wallet address unless it comes online. As a result, your investments in that wallet will be more secure.
Few centralized exchanges keep a big portion of the cryptos in cold storage. As a result, these cryptocurrencies are protected from hacking.
Centralized exchanges like WazirX keep 95% of their crypto deposits in cold storage. As a result, the customer’s investments are protected.
Hi! We keep very little funds in the hot wallets. More than 95% of the funds are kept in the cold storage. Be rest assured, your funds are safe on WazirX. Thanks!
— WazirX: India Ka Bitcoin Exchange (@WazirXIndia) May 13, 2019
Even CoinDCX informs on its website that more than 95% of its crypto assets are stored in cold wallets and only 5% stay in hot wallets to provide liquidity.
Hence investing in standard crypto exchanges help you in protecting your funds and investments.
Conclusion
Hope you understood the concept of Centralized and Decentralized exchanges. So, now comes the toughest part, which one to choose?
Of course, it’s your choice. But here are our suggestions:
- Centralized exchanges are more regulated and transparent. Hence investing through centralized exchanges will not be a problem, even in the future.
- As more and more regulations come from the governments, it will become tough for the DEX to withstand them.
- Novice investors should always prefer well-known centralized crypto exchanges like WazirX and CoinDCX or any other exchange which has a good reputation.
- DEX has many regulatory concerns when compared with centralized crypto exchanges.
- DEX is in the infant stage and a lot of changes would come in the future, hence the regulations from the government may cause problems for investors and traders using DEX. KYC is an important criterion that might be the nidus of problems in the coming future.
- Using centralized exchanges, you are helping in the development of YOUR COUNTRY’S Economy, as every transaction you make is rightly taxed and paid to the government. On the other hand, DEX transactions cannot be phantom in their finances and might be a problem for the investor in the future (regulatory concerns).
Hope you liked the read. If so, do share it with your friends.
Our devoted team of financial experts and seasoned writers work tirelessly to curate content that is both instructive and easy to understand. We cover a wide range of topics, including blockchain technology principles, analyzing different cryptocurrencies, decoding market trends, and investigating investing techniques.
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