Centralized vs Decentralized Cryptocurrency Exchanges

Last updated on February 7th, 2023 at 03:18 pm

If you are a beginner in the crypto space and want to know which type of exchange is right for you, compare centralized vs decentralized cryptocurrency exchanges, and find out what works best.

Are you interested in investing in cryptocurrency but confused about the different types of exchanges? One of the major distinctions between platforms is between centralized and decentralized exchanges—so what’s the difference, and which should you choose?

If you are thinking of buying or selling crypto, especially for the first time, your first idea will probably be using an exchange. A centralized cryptocurrency exchange is mostly the first port of entry for beginners because of its easy-to-use features and popularity.

There has been recent chaos around the crypto industry and most of them are targeted toward centralized cryptocurrency exchanges. Most recently, the collapse of FTX – one of the world’s largest centralized cryptocurrency exchanges has sparked questions from individuals asking about the advantages and disadvantages of keeping your assets in a centralized exchange compared to decentralized exchanges.

The constant negative news has led investors to weigh their options and consider alternatives to centralized exchanges. Obviously, the only alternatives to gravitate towards are the newer types of exchanges that are decentralized. These decentralized exchanges are gradually changing the concept of how exchanges work.

Over the last 5 years, decentralized exchanges popularly known as DEXs have been emerging to challenge the already dominant centralized exchanges CEXs. DEXs were created to fix the challenges faced when using CEXs.

They aim to drastically reduce transaction fees, let users directly hold and have access to their digital assets, and avoid too many regulatory burdens. That notwithstanding, CEXs also have their own advantages which we will talk about later in this post, one of them being that they are very user and beginner-friendly.

Before we dive right into it, for the sake of the newbies, let us describe what cryptocurrency exchanges are briefly.

What is a Cryptocurrency Exchange?

Cryptocurrency exchanges are digital marketplaces used for trading cryptocurrencies. They work similarly to traditional stock exchanges, where traders can buy and sell digital tokens in a secure manner.

A cryptocurrency exchange is an online platform where users can buy, sell, and trade cryptocurrencies. Cryptocurrency exchanges provide a secure, reliable, and regulated environment for traders to purchase digital currencies like Bitcoin (BTC), Ether (ETH), Litecoin (LTC), and more. They are often used by investors and traders as more convenient alternatives to buying tokens from other sources such as over-the-counter trades.

They are privately owned platforms that make buying and selling digital assets, fiat currencies, and NFTs easier.

Now that you are familiar with what a crypto exchange is, let us now move to explain and compare centralized vs decentralized cryptocurrency exchanges.

What is a Centralized Cryptocurrency Exchange?

A centralized cryptocurrency exchange is an online platform that allows users to buy, sell, trade, and store digital currencies. Unlike decentralized exchanges, which are powered by distributed ledger technology, a centralized exchange is operated in a traditional manner.

Centralized exchanges are usually regulated by authorities, whereas decentralized exchanges do not have the same level of oversight or regulation. CEXs acts as a middleman between buyers and sellers and they make their money by collecting commissions and transaction fees.

These exchanges make it possible for investors to have the option to buy cryptocurrencies at the current price known as spot, or to create orders that will get processed once the price of the asset gets to the investors’ target. This option is known as limit orders.

The exchange automatically matches buyers and sellers based on the most favorable executable price that is given by the trade size or lot size. Centralized exchanges have a limited number of cryptocurrencies and it decides which digital assets is allowed to be traded.

Centralized cryptocurrency exchanges provide custodial wallets for users to store their assets which means your crypto is held in trust by the exchange.

Pros of Centralized Cryptocurrency Exchanges

CEXs have a number of advantages, but we have listed a few of them below:

User and Beginner-friendly
Leverage
Reliability

A closer look at the advantages of centralized crypto exchanges.

1. User and Beginner-friendly

Using CEXs as a beginner is quite easy. They offer investors a user-friendly platform to carry out their transactions with easy UI to navigate through. Users of centralized exchanges can access their wallets by logging in to their accounts by visiting the website or using the mobile app.

2. Leverage

Another benefit of using a centralized crypto exchange is leverage. This gives investors options to leverage their investments using money borrowed from the exchange. This type of trading is referred to as margin trading.

3. Reliability

Centralized cryptocurrency exchanges give an extra layer of security which makes them reliable when it comes to storing your assets and performing trades. Also, CEXs offer an extra level of comfort.

Cons of Centralized Cryptocurrency Exchanges

Transaction fees
Hacking risk
Risk of fraud

1. Transaction fees

Centralized exchanges charge transaction fees and collect commissions for their services. Sometimes, these fees are high especially when trading in high amounts.

2. Hacking risk

Since centralized exchanges are responsible for holding funds and assets for their customers, they usually hold billions of dollars worth of cryptocurrency which makes them targets for hacking.

There have been cases like this in the past. An example of this is the hack and collapse of Mt.Gox which at some point was one of the largest crypto exchanges in the world. Mt.Gox was reportedly hacked and the culprits went away with 850,000 bitcoins.

3. Risk of fraud

Centralized exchanges hold your assets as custodians which means you don’t have direct control. While they seem to provide comfort, there is a risk of the platform failing or fraud. Some example of these failed CEX includes lender Celsius Network, broker Voyager Digital, Three Arrow Capital, and most recently the crash of FTX.

What is a Decentralized Cryptocurrency Exchange?

A decentralized cryptocurrency exchange is a platform that allows you to buy and sell digital assets in a secure and anonymous manner. Unlike centralized exchanges, there’s no central authority controlling your funds, which means users in a decentralized exchange can remain completely anonymous.

Decentralized crypto exchanges are digital platforms that enable you to buy and sell cryptocurrencies without any centralized intermediary. They provide a trustless and secure way of trading assets since there’s no third-party controlling your funds, allowing users to remain anonymous while they trade in the marketplace. Furthermore, they don’t have any access to user data as everything is handled by smart contracts and blockchain technology.

Decentralized crypto exchanges allow peer-to-peer transactions directly from your wallet without the involvement of any intermediary. Decentralized exchanges rely on smart contracts which are self-executing codes on a blockchain.

Since DEXs do not involve any middleman, it means that users are left on their own to facilitate their own trades which means that DEXs are mostly used by experienced users.

Pros of Decentralized Cryptocurrency Exchanges

Some of the advantages of using decentralized exchanges are listed below:

Less hacking risk
Custody
Easier verification
More numbers Altcoins available

1. Less hacking risk

Since DEXs do not hold investors’ funds, it makes them less targeted for hacking. There is little or no risk of the platform being hacked. Users are assured of greater security from hack failure and fraud.

2. Custody

As we earlier stated, DEXs do not have custody over assets unlike in centralized exchanges. Users are fully assured that they have control assets and so they do not need to transfer to a third party.

3. Easier Verification

Since users are in full control of their assets, the need for customers filling the Know-Your-Customer (KYC) form is not done.

4. More numbers of Altcoins available

There are lots of altcoins that are available on DEXs that are not available in CEXs. Most smaller crypto projects launch on decentralized exchanges rather than on CEXs.

Cons of Decentralized Cryptocurrency Exchanges

Limited Trading Functionality
A limited form of payment
Lack of liquidity

1. Limited trading functionality

The focus of DEXs is simply to execute buy and sell orders. This is a limitation to experienced traders who want to perform other types of functions like margin trading, leverage, and setting stop losses

2. Limited form of payment

Decentralized exchanges are best for performing trades that involve switching from one coin to another and are not convenient for investors who want to buy crypto using a fiat currency and not have existing cryptocurrencies.

3. Lack of liquidity

The majority of crypto transactions, over 90% of them are carried out on centralized crypto exchanges which means that they control most of the crypto trading volume. Due to the little volume, it can be difficult finding buyers and sellers.

Examples of Centralized Cryptocurrency Exchanges

Coinbase
Binance
Bitfinex
Kucoin
Gemini
Kraken
Bybit

Examples of Decentralized Cryptocurrency Exchanges

Uniswap
Curve Finance
Kine Protocol
DODO
dYdX
Perpetual Protocol