Summary

You probably already know all about the process of a cryptocurrency trading platform. Please use your email address to register and set a strong password. Once your account is verified, you can start trading cryptocurrencies.

The operation of the decentralized trading platform is so simple, eliminating the cumbersome registration process. In most cases, there is no need to deposit or withdraw cryptocurrency. Because transactions generally occur directly within the wallets of both users, the intervention of third-party exchanges (if any!) is limited.

Although decentralized trading platforms can be a bit difficult to master, and they may not yet provide the assets you need, as technology develops and user interest grows, decentralized trading platforms are extremely promising. May become an integral part of the cryptocurrency space.

Contents

• Introduction
• Definition of decentralized trading platform
• Operation process of centralized trading platform
• Operation process of decentralized trading platform
  • On-chain order book
  • Off-chain order book
  • Automated Market Maker (AMM)
• Advantages and Disadvantages of Decentralized Exchange (DEX)
  • DEX Advantages
• li>
• DEX Disadvantages

Introduction

 When Bitcoin first developed, exchanges became an important platform for matching buyers and sellers of cryptocurrencies. Without these forums attracting a global user base, we would have far less liquidity than we have now and no way to agree on the right price for assets.

Traditionally, this field is dominated by centralized players. However, with the rapid development of the available technology stack, a large number of decentralized trading tools are constantly being released.

In this article, we will take a closer look at decentralized exchanges (DEX), which are trading venues that do not require any intermediaries.

Definition of decentralized trading platform

Theoretically, transactions between peers All can constitute decentralized transactions ( Atomic transaction analysis). But in this article, we are more interested in platforms that simulate the functionality of centralized exchanges. Their biggest difference is that the backend is on the blockchain. No one else can take over your funds, and you don’t have to give trading platforms the same trust as centralized products.

Operation process of centralized trading platform

You can deposit funds through a general centralized trading platform Currency or fiat (via bank transfer or credit/debit card) or cryptocurrency. If you want to deposit cryptocurrency, you need to give up control over it. But this abandonment is from a technical perspective, not from a usage perspective. You can still trade or withdraw currencies, but you cannot use these cryptocurrencies on the blockchain.

You no longer own the funds private key, which means that when you make a withdrawal, you should ask the exchange to sign the transaction in your name. When you make a trade, this process does not happen on-chain, instead, the trading platform allocates balances to users in its own database.

The entire workflow is super streamlined, because the slow speed of the blockchain will not affect the success or failure of the transaction, and all transactions will occur in a single entity system. Cryptocurrencies are more efficient to buy and sell, and there are more tools at your disposal.

But this operation involves a certain loss of independence: you need to hand over your money to the trading platform and give it your full trust. As a result, you may be exposed to a range of counterparty risks. What if the team makes off with your hard-earned Bitcoins? What if a hacker attacks the system and makes off with all the funds?

For many users, this level of risk is acceptable. They can mitigate the risk of data breaches simply by trusting these reputable trading platforms with excellent track records and preventive measures.

The operating process of a decentralized trading platform

The nature of DEX and its centralized competitors are polarizing , very similar in some aspects, and completely different in some aspects. First, we will find that there are several different types of decentralized trading platforms available to users. The commonality between these platforms is that orders are executed on-chain (using smart contracts), and users do not need to give up custody of funds under any circumstances.

While some operations are done in cross-chain DEXs, the most common ones revolve around assets on a single blockchain such as Ethereum or Binance Chain.

On-chain order books

Even in some decentralized trading platforms, Everything is done on-chain (we will discuss hybrid methods soon). Every order (and its changes and cancellations) is written to the blockchain. This is obviously a very transparent way because you don't need to trust a third party to pass the order to you, and there's no chance of the order being mixed up.  

Unfortunately, this is also the most impractical approach. Because you must require every node on the network to record order information at any time, and you will ultimately pay the fee. You need to wait until miners add your information to the blockchain, which means you experience a tedious and complicated process.  

Some people consider front-running to be a flaw in the model. Front-running occurs when an insider learns the details of a pending transaction and uses that information to take action before the transaction is officially made. Therefore, first movers can benefit from information that is not publicly known. Generally speaking, this is illegal.  

Of course, if all transactions were published on a global ledger, there would be no opportunities for front-running in the traditional sense. However, bad actors can still deploy an alternative attack: in this mode, miners can see the details of the order while it is in an unconfirmed state, and then they will first ensure that their order is added to the blockchain first. .

On-chain order book models include decentralized trading platforms such as Stellar and Bitshares.

 ➠ Want to start a digital currency journey? Welcome to buy Bitcoin on Binance!

Off-chain order books

Contains the on-chain order book model Decentralized exchanges still retain their decentralized nature in some aspects, but there is no denying that they are more centralized than previous entries. All orders are no longer posted to the blockchain, but are hosted somewhere.

Where exactly? It depends. You can delegate full management of your order book to a centralized entity. But if this is a malicious entity, then they can manipulate the market to a certain extent (i.e. by front-running or tampering with orders, etc.). However, unmanaged storage is not without its benefits.

A good example of this is the 0x protocol for ERC-20 and other tokens deployed on the Ethereum blockchain. This is not a single decentralized trading platform, it provides a framework for each "relayer" to manage off-chain order books. With 0x smart contracts and other tools, hosts have access to combined liquidity pools and can relay orders between users. Only when the parties are successfully matched, the transaction will begin to be executed on the chain.

From a usability perspective, these methods are superior to those that rely on on-chain order books. They won't have the same limitations in terms of speed because they're not as dependent on the blockchain. Trades must be settled on the blockchain, so the off-chain order book model is still not as fast as centralized exchanges in terms of speed.

Implementations of off-chain order books include Binance DEX, IDEX and EtherDelta.

Automated Market Maker (AMM)

Have seen enough of the "order book" ;This term? Never mind that the automated market maker (AMM) model does away with this concept entirely. This model does not require the participation of the placing party or the taking party, only the user participation, using game theory and some clichéd black magic.  

The details of automated market makers depend on execution. Typically, they will string together a large number of smart contracts and then provide clever incentives to ensure user participation. We won't go into detail about these implementations, but will look at what Uniswap is and how it works as an example of how Uniswap DEX works.

The available decentralized trading platforms based on AMM are more user-friendly and integrate wallets such as MetaMask or Trust Wallet. However, this is like other forms of DEX, transactions must be on-chain for settlement.

Projects involved in this include the aforementioned Uniswap and Kyber Network (both applying the Bancor protocol), both of which facilitate the trading of ERC-20 tokens.

The advantages and disadvantages of decentralized exchanges (DEX)

We have roughly outlined in the previous section Some advantages and disadvantages of DEX are introduced. Next, let’s delve deeper.

DEX Advantages

No KYC authentication required

KYC/AML ( Know Your Customer and Anti-Money Laundering) have become common practice on many trading platforms. For regulatory reasons, individuals must submit identification documents and proof of address.

Some people are concerned about privacy issues; others are concerned about accessibility issues. What if you don’t have valid documents on hand? What if information is accidentally leaked? Since DEX is a permissionless platform, there is no need to check your identity. All you need is a cryptocurrency wallet.

However, if part of the DEX is centrally managed, there are some legal requirements that need to be followed. In some cases, if the order book is a centralized form, the host must ensure compliance.

No Counterparty Risk

The main attraction of decentralized cryptocurrency trading platforms is that they do not hold clients’ funds. Therefore, even if a catastrophic breach like the 2014 Mt.Gox hack occurred, users’ funds would not be at risk or any sensitive personal information exposed.

Unlisted Tokens

Tokens that are not listed on the central trading platform can still be traded on the DEX for free, provided there is Supply and demand.

DEX Disadvantages

Usability

In fact, DEX is not as good as traditional The exchange is so user-friendly. The centralized platform can provide real-time transactions regardless of block time. For newcomers unfamiliar with non-custodial cryptocurrency wallets, CEX offers a more forgiving experience. If you forget your password, just reset it. However, if you forget your mnemonic phrase, your funds stored in cyberspace will be permanently lost.

Trading volume and liquidity

The trading volume on CEX far exceeds that of DEX. CEX's liquidity is more abundant. Liquidity measures your ability to successfully buy or sell an asset at a reasonable price. In a highly liquid market, the difference between bid and ask is small, which means competition between buyers and sellers is fierce. However, if you're in an illiquid market, you'll have a hard time finding someone willing to trade your asset at a reasonable price.

DEXs are relatively niche, so there may not necessarily be supply or demand for the crypto-assets you wish to trade. You may also not be able to find your ideal trading pair, and even if you do, you may not be able to trade at a fair price.  

FEES

DEX fees are not always higher than those of its peers, but if your network is congested Or if you are using an on-chain order book, you may incur higher fees.

Summary

In recent years, various decentralized trading platforms have emerged continuously, and each iteration has learned Learning from past attempts, we aim to simplify the user experience and build a more powerful trading place. The resulting principle seems to coincide with a sense of self-sovereignty: just like cryptocurrencies, users do not need to trust other third parties.

Thanks to the rise of DeFi, the usage of Ethereum-based DEX has surged. If this strong momentum continues, we are likely to witness an endless stream of technological innovation across the industry.

➠ Still have questions about the exchange? Head over to Ask Academy!