Beginner’s Guide to the Types of Cryptocurrency Exchanges

Beginner’s Guide / 25.10.2019

With the constant surge in cryptocurrencies and their applications, investors and traders demand Cryptocurrency Exchanges to perform trading. Crypto Exchanges play a vital role in the development of the blockchain industry. To put in simple words, a Cryptocurrency Exchange allows investors to trade instantly, buy, or sell cryptocurrencies.

For investors looking to enter the cryptocurrency space, a centralized exchange is still the most common means of doing so. But the list doesn’t just end there. To gain complete knowledge of the ecosystem, one must know about the other options available as well. When selecting an exchange, it’s important to keep in mind the host of factors which will impact user experience, including which pairs are traded, how high trading volume is, the security measures adopted by exchanges to protect their customers, and most importantly, the risk involved in trading with the particular platform.

Although there are many cryptocurrency exchange platforms currently available, it is obvious that the vast majority of them follow the standard model and protocol that offers a limited and frustrating trading experience to traders who would love to get more out of exchanges. Let us take a brief look at the types of exchanges out there and how one can decide on what suits them the best:

Based on Ownership

Centralized – CEX

The main essence of a centralized exchange is that it is the intermediary between user-traders’ two roles (taker and maker). Centralized exchanges currently form the cryptocurrency ecosystem’s backbone by bringing most, if not all, the traction.

This kind of exchange makes money by obtaining a fee from each transaction (usually from 0.1% to 1.5%). The broker company controls the entire system, infrastructure, and platform. In the case of hacker attacks, DDoS attacks, or other unauthorized access, the exchange will suspend its work to secure user funds. All money is stored on the accounts of crypto-exchange, and in fact, it controls its activity, market, assets.

The benefit of knowing who you are is that you can prove you are the owner of an account in the event of losing access or some error that requires issue resolution. The benefit of not knowing who you are is that you can use your money without losing privacy and use systems that are not available in your jurisdiction. It is the combination of liquidity and custodianship that means faster execution.

Centralized Exchanges Characteristics:

  • High Volume
  • High Liquidity
  • Low Transparency
  • Risk of counterparty
  • Indirect ownership of funds
  • Not anonymous

Some of the prevalent centralized exchanges include Coinbase, Binance, Bittrex, Bitfinex, etc.

Decentralized – DEX

decentralized exchange (DEX) is a cryptocurrency exchange that operates in a decentralized way, i.e., without a central authority. Decentralized exchanges allow peer-to-peer trading of cryptocurrencies. In a traditional centralized exchange, the platform ensures that each buyer is matched with a seller based on a first-come-first-serve basis. Centralized exchanges provide efficiency in exchange for privacy. On a decentralized exchange, one can rest assured that privacy is maintained as they control their funds and data. Still, sometimes, it gives up much of the efficiency and liquidity that most centralized exchanges boast.

DEXs do not hold cryptocurrencies or have a central ledger. This bars DEXs from offering efficient latency to motivate larger investors to participate in these markets to provide more liquidity. Generally, DEXs have lower liquidity than CEXs because of lower users’ adoption and, thus, lower trades occurring throughout the platform.

DEX’s preserve the non-custodial aspect of trading crypto. You never have to leave your tokens sitting on an exchange, but it allows for a smoother trading experience that feels more comparable to trading on a centralized exchange.

Centralized exchange fees are very high, but they provide more robust tools and fast confirmation times. A decentralized exchange will be much cheaper in comparison, allowing trades that would potentially cost $1000s to be executed for pennies. The downside is that trades on DEX will not be confirmed immediately, and usually, the service will not offer the same toolset that a centralized exchange would.

Decentralized Exchanges Characteristics:

  • Transparent to everyone
  • No Counterparty Risk
  • Liquidity depends on the exchange’s reputation.
  • Direct ownership of funds
  • Anonymous

Some of the prevalent decentralized exchanges include dy/dx, Ddex, Next.exchange, etc.

Hybrid

Hybrid exchanges are gaining popularity and are known to be the next-generation crypto trading marketplace. As the word “hybrid” itself defines, it combines both centralized and decentralized cryptocurrency exchange (CEX+DEX=HEX). The hybrid exchange philosophy builds on the strengths of decentralized and centralized exchanges. Thus, the hybrid cryptocurrency exchange will be based on a centralized exchange platform’s liquidity and functionality and a decentralized exchange platform’s security and confidentiality. Hybrid Cryptocurrency Exchange is one in which you can allow a user to trade with and without middle man authority. You can decide when your exchange must be a CEX and when to be a DEX.

Because it unites the advantages of a centralized exchange, such as cooperation with large investors and the trust of many users, with the advantages of a decentralized exchange, such as the absence of a higher authority and reliable storage.

Bitdeal – Cryptocurrency Exchange Development Company

Bitdeal is a leading cryptocurrency exchange development company known for providing the best cryptocurrency exchange script to start your own exchange business.

This is how we choose hybrid cryptocurrency exchange development, we believe this will be the future of cryptocurrency exchanges after dex. With 120+ expert developer team, bitdeal can derive you a unique development strategy to build hi-secured hybrid cryptocurrency exchange website.

Binance DEX is the most famous hybrid exchange as of now. But proposals for dozens more are on the way.

Based on Trade

Regular 

Any seasoned trader or investor would know that a base asset is just the surface of the investing landscape. As the asset’s demand increases, the innovation in providing products linked to the asset also increases.

Regular exchanges such as Coinbase allow investors to come, deposit funds and buy or sell the crypto asset of their choice. They connect buyers to sellers, execute the trade, and facilitate the exchange of funds immediately. Exchanges with basic trading functionalities such as buy/sell, daily charts, order books, etc., are more than enough for any retail and infrequent investor to make their decision and execute their strategies.

Regular exchanges form the cryptocurrency landscape’s backbone as they function as the gateway towards other diverse products. Regular asset facilitates the base asset trade for their market value and connects thousands of buyers with sellers. Both centralized and decentralized exchanges can be conveniently configured to function as a regular exchange.

Specialized

Exchanges build upon the traditional base asset exchange by providing an innovative product that leverages the base asset form Specialized exchanges. The products offered by them may include derivatives such as futures, options, leveraged trading, etc. Day Traders usually prefer exchanges that integrate innovative products on top of the regular exchange activities, allowing them to make a greater profit based on their reasoning.

By proving the facilities of a traditional exchange and including specialized products, Binance, BitMEX, Bityard, and others bring huge interest from technical and institutional investors.

Specialized exchanges can be highly rewarding and extremely risky at the same time, depending on your trading methods and also your competency. One of the most common features is margin trading. Even though margin trading is the riskiest, it is also an enormously rewarding form of crypto trading.

Margin trading involves using the deposit to take on leverage with greater risk in the hopes of pulling in a greater reward. Leverage works by using a deposit, known as margin, to provide you with increased exposure. Essentially, you’re putting down a fraction of the full value of your trade. Leveraged products allow traders to gain exposure to major cryptocurrencies, such as Bitcoin and Ethereum, and others, without tying up lots of capital. For example, if you have $100 and you leverage (borrow) $1000 on this existing $100 to trade, it is called leveraged margin trading.

The BitMEX or Bitcoin Mercantile Exchange is the most famous specialized exchange in the crypto sector. It provides leveraged products for 6+ cryptocurrencies and allows leverage up 200x the deposit amount.

Based on Acceptance

Fiat

A crypto exchange is an online website that provides a platform for buying, selling, or exchanging cryptocurrencies like bitcoin, ether, and litecoin for fiat money like USD, EUR, and GBP. A “fiat-to-crypto on-ramp” is a process that facilitates the conversion of government-issued fiat currency into a crypto-based currency. Centralized exchanges have the advantage of being the first interaction most people have with cryptocurrencies; they are only fiat-to-crypto on-ramps.

Fiat-based exchanges allow the conversion of sovereign currencies to be exchanged to cryptocurrencies to get exposure to the developing asset. Fiat-based exchanges are among the most important growth drivers as they allow new money to flow into the sector. For this reason, fiat exchanges get the highest traction as most retail investors first need to get in the sector and then move on to other platforms.

Most centralized exchanges, like Coinbase, BinanceBittrex, function as fiat convertors. Some exchanges even accept credit cards for the purchase of cryptocurrencies, thereby increasing liquidity and leverage.

Non-Fiat

Exchanges involved in the daily exchange of cryptocurrencies but do not involve exchanging cryptocurrencies from or to Fiat currencies are non-fiat exchanges. Non-fiat exchanges are usually principled, abhorrent, and rigid. They offer little flexibility but are extremely helpful for anonymity. People fully indulged in using cryptocurrencies and who discourage conversion into fiat currencies prefer exchanges such as this. Non-fiat exchanges involve greater security and discourage centralized entities or institutions from laying a claim by acting intermediaries. Even though most non-fiat exchanges are usually decentralized, there are quite a few that are centralized.

Some of the decentralized exchanges that discourage fiat transfer are dy/dx, Ddex, NextExchange.

For detailed reviews on some of the best exchanges out there, check below.

Conclusion

When choosing a cryptocurrency exchange, it is important to balance several different considerations. Exchanges are different and have different ways of building security precautions, regulating users, building their network, and building a user experience.

Right now, there are more than 350+ established exchanges with more on the way every day. In all this hassle, it cannot be easy to pinpoint the right exchange for you.

It is not a clear cut decision of which exchange structure is best to be used. You could be extremely comfortable managing your crypto key security but still, want access to high-frequency algorithmic trading decisions that are only available using centralized exchanges. As the industry ventures forward, innovations in enabling personnel to buy and sell their cryptocurrencies are running at a rampant pace. It is unto the market players to finally decide what their particular preference is. One would be comfortable with a centralized exchange that takes care of all technicalities, while another would enjoy taking the time to learn the intricacies of decentralized exchanges.

At the end of the day, the best advice one could give is thorough and DYOR – Do Your Own Research. That’s the best possible strategy when going about deciding on the exchange of your choice.

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Sudarshan M is a long time crypto-enthusiast. Pulled in by bitcoin early on, it did not take long for Sudarshan to divert all of his academic attention from business studies to blockchain by doing his Masters and eventually pursuing his PhD in the subject.