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Should You Trade on a DEX or a Centralized Exchange?

  • Given the current state of decentralized exchanges, it is not possible to say that one is “better” than the other.
  • The decision to trade on a decentralized or centralized exchange comes down to you and your individual investment needs.
Should You Trade on a DEX or a Centralized Exchange? 101
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Decentralized exchanges have been growing in popularity in the past two years as it has become evident that even the most reputable centralized exchanges cannot offer the level of security that crypto traders seek. However, despite providing superior fund security than their centralized counterparts, decentralized exchanges also have significant drawbacks that may deter traders from using them.

In this article, you will be introduced to decentralized exchanges and how they work.

What is a DEX?

A decentralized exchange, commonly known as a DEX, is a cryptocurrency trading platform that operates without a central authority where users trade directly with one another on a peer-to-peer basis.

The majority of decentralized exchanges leverage smart contracts to enable investors to trade with each other directly on the blockchain while being able to hold onto their funds themselves. Additionally, DEXs are considered to be immune from hacks and server downtime due to their decentralized nature, and they enable anyone around the world to trade anonymously as they do not require user registrations.

How to trade on a DEX

To provide you with an example of how to trade on a decentralized exchange, we will use a popular DEX on the Ethereum network, IDEX, as an example. (There are many other DEXs you could also check: Bisq, Bitshares, Bancor, Kyber, Waves DEX and others.)

To get started on IDEX, you first need to access the platform on https://idex.market/ and click on “New Wallet.” Alternatively, you can connect an existing wallet, such as MetaMask or Ledger, by clicking “Unlock Wallet.”

To set up a new wallet, you will need to enter a password upon which you will receive a private key and a JSON file (JavaScript Object Notation, an open-standard file format) for you to download and store securely for future access to your IDEX account.

Once your account is set up, you can deposit ETH or other ERC20 tokens in your personal exchange smart contract where tokens will be temporarily held so that you can execute your trades. You can make the deposit by sending ETH or an Ethereum token to your smart contract wallet address, found on the top right when clicking on your user icon.

Should You Trade on a DEX or a Centralized Exchange? 102

To view your holdings, you can click on the “Balances” button and to execute a trade, you need to access the “Trade” section.

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If you want to trade, you will need to choose the cryptocurrency pair you want to transact in and then decide whether you want to place a limit or a market order. Next, you input the price you want to trade at (if you are placing a limit order) and the amount. Then, you click “Buy” or “Sell,” depending on what side of the transaction you want to be on and wait for your order to be executed.

Once your trade has been processed, you can withdraw your tokens from “My IDEX wallet” into “My Wallet Balance,” at which point they will leave the exchange’s smart contract and move back in your own Ethereum wallet.

In terms of fees, IDEX charges 0.2% for the market taker and 0.1% for the market maker. Users also pay gas fees to put their transactions on blockchain.

Pros and cons of trading on a DEX

While decentralized exchanges have a number of distinct advantages over their centralized counterparts, they also come with drawbacks that may discourage users, especially new crypto investors, from using them.

Advantages:

  • Funds are held by the user
  • No KYC (know-your customer) required
  • Accessible to anyone
  • Effectively hack-proof
  • No server downtime

Disadvantages:

  • Not user-friendly
  • Knowledge about smart contracts required
  • Usually no customer support
  • Low liquidity
  • Assets limited to tokens of underlying
  • Only basic trading features
  • Slow execution

It is difficult to say whether the pros outweigh the cons or the other way round. That depends on the user and their specific investment needs.

Should you trade on a DEX or a centralized exchange?

When it comes to trading on decentralized exchanges, it is important to note that you can generally only trade the tokens of the blockchain that underlies the DEX. That means that if you want to trade a variety of coins and tokens, you will have to sign up to a number of different DEXs. Centralized exchanges, on the other hand, usually offer a range of investable digital assets.

Moreover, if you want to trade on a DEX, you will need to feel comfortable dealing with smart contracts. If you are not versed in how smart contracts and gas fees work, DEXs are probably not for you. Moving tokens from your MetaMask wallet to your exchange account wallet, then into the trade execution smart contract and back again is not an easy feat for first-time users.

Additionally, if you are new to digital assets and want the same feel as trading stocks on an online brokerage, centralized exchanges are definitely the way to go. Decentralized exchanges can often seem clunky and can come with an unintuitive user interface, which makes it difficult to trade for newcomers. The user-friendliness of centralized exchanges cannot be matched by their decentralized counterparts (yet) while customer support is effectively non-existent on most decentralized exchanges.

DEXs also usually tend to have slower trade execution than centralized exchanges and come with lower liquidity. Hence, they are not ideal for active day traders who want to move in and out of sizable positions quickly.

Having said that, if you are a regular investor in token sales, decentralized exchanges offer an excellent avenue to liquidate your position when tokens have not yet been listed on major exchanges. In some cases, DEXs offer the only trading platform where initial coin offering tokens can be traded and, occasionally, they also enable traders to pick up newly-issued tokens on the cheap before they trade on large exchanges.

Fundamentally, the decision to trade on a decentralized or centralized exchange comes down to you and your individual investment needs. Given the current state of decentralized exchanges, it is not possible to say that one is “better” than the other. Newcomers, for example, will struggle with the user-unfriendliness and lack of customer support of DEXs while seasoned blockchain investors who prefer not to trade on centralized exchanges due to security concerns prefer the decentralized alternative.

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