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Introduction To Decentralized ExchangeBy Abhishek Singh | June 12, 2018, 8:06 a.m. GMT
This is a two-part blog where we will first discuss the concept of a decentralized exchange, its pros, and cons. Then, we will discuss the following types of exchanges:
A centralized exchange is an exchange that allows purchase and sale of cryptocurrency with fiat or other stable cryptocurrencies, and it also involves a centralized third party. The role of the third-party is to match the buyer and seller while maintaining all trade on the exchange. The involvement of third-party increases the liquidity (amount of assets being bought and sold) and reduces the friction between the buyer and seller.
In a nutshell, all the trade on a centralized exchange is governed and executed by the central authority.
A decentralized exchange is a type of the exchange where the trade takes place on the Blockchain. Here, there no single party storing your details, historical trade information, or account balances on one server. Most of the decentralized exchanges let you buy or sell ERC20 token using another ERC20 token.
Pros of Decentralized Exchange
Control of the funds
In a decentralized exchange, a user controls his funds whereas, in a centralized exchange, the funds are controlled by central authority. In decentralized exchange, the user directly trades with another user, so no middlemen are required. For example, the buyer will select his seller. Another thing here is that the user will have his private and public keys. The user must sign the transaction with his private key everytime he or she wants to place an order to buy or sell.
Availability of more coins
Since any ERC20 can be traded on a decentralized exchange, the number of coins that are available for trading is huge; most of the centralized exchange doesn’t provide all the coins. The quote coins available to trade are few, like most of the centralized exchange let’s user to trade in Ether, Bitcoin, and Tether. This means you can buy or sell coins like ripple, using these three coins only. In centralized exchange, sometimes the exchange can decide to stop trading some coins, this cannot happen on a decentralized exchange.
The decentralized exchange is more secure than the centralized one as the data of the user is not stored on the server. Here, the user controls everything. And we know that Blockchain is more secure than the centralized system. If you want to learn how, please visit this page.
Use of hardware wallets
By using decentralized exchange, one can use hardware wallets like Trezor or Ledger Nano S because users don’t have to put their assets in an account held by the exchange; they can use any wallet because they control their own accounts. The hardware wallet supports ERC20 token, which makes it the best and most secure store for your assets.
Cons of Decentralized Exchange
Difficult to use
Decentralized exchanges are not easy to use. Users are expected to have basic technical knowledge about smart contracts. Because of this expectation, handling decentralized exchanges can be tough for some users.
Less robust features
Advanced trading tools and features, like margin-trading, are absent in the decentralized exchange. It is because decentralized exchanges are new and are likely to experience some growing pains until these ‘expert’ features are introduced.
Once again, this is a drawback mostly because decentralized exchanges are still new to the market. Trading volume here is very low and one of the reasons why users prefer a centralized exchange. It is tough to find a counterparty in decentralized exchange.
No Fiat currency
One of the greatest drawbacks of a decentralized network is that it does not support fiat currency exchange. You need to have a crypto to buy or you will get crypto for your crypto. This is a problem now which may not exist in the future because in today’s time not everyone holds a cryptocurrency.
To conclude this first part, if you have cryptocurrency and want to trade using cryptocurrency, you should use the decentralized network. On the other hand, if you are new to the crypto-world and just getting started, you should certainly use centralized exchanges like Coinbase, Poloniex, Binance, etc.