DEX Vs CEX: Which Crypto Exchange Is Best?
|— Crypto exchanges can be centralized or decentralized, and the type of exchange you’re using has some big implications in terms of your options and security.|
— Centralized crypto exchanges offer benefits like guaranteed liquidity, on-ramping functionality and ease of use. But they also require you to entrust your crypto to the exchange’s custodial wallet.
— Decentralized exchanges give you self-custody of your crypto, allowing you to trade from your own wallet and retain control of your private keys. But their interface can be tricky to understand, and liquidity can be an issue.
— DEX or CEX – which one do you need? Here, let us help you understand.
So you’re looking to swap your crypto, but you keep reading about different exchanges and have no idea where to start: DEX or CEX? What on earth is the difference?
In the jargon-filled world of crypto, CEX and DEX are two of the terms you’ll see cropping up the most. They are both types of exchange, but with some fundamental differences. Don’t be deterred, though – these concepts are actually very simple to explain and easy to grasp, and that’s what we’ll focus on in this article.
Let’s jump in!
Centralized Vs Decentralized Exchanges (CEX vs DEX): Explained
In a very basic sense, the difference is simple: A centralized exchange is a service that allows you to buy and sell crypto using a centralized model, and a decentralized exchange allows you to do the same thing but without a middleman.
But there’s a bit more to it than that. Before we dive into the details though, let’s start with the basics.
What Are Crypto Exchanges?
Cryptocurrency exchanges are essentially marketplaces where people get to buy and sell blockchain-based coins and tokens. But exactly how your transaction works – and the possibilities for you the user on each platform – depends on the type of exchange you’re using. For the full details on the subject, check out the full article on what a crypto exchange is. However, for the purposes of this article, it’s important to know there are two main types of exchange; centralized and decentralized.
Centralized Exchanges (CEXs)
A centralized crypto exchange is created and owned by a single organization. Acting as an intermediary, matching buyers and sellers. Notable centralized exchanges include Coinbase, Binance, Kraken, and Gemini, to mention a few.
One of the key defining features of centralized exchanges is that they are custodial. This means that when you want to trade on a CEX, the service retains the final right over your coins. That’s because the exchange keeps the private keys to the wallet and provides you with login details so you can access it.
Finally, to establish crypto prices, centralized exchanges use an order book system, much like a traditional bank does.
Decentralized Exchanges (CEXs)
Like a CEX, the purpose of a decentralized exchange is to allow you to trade your crypto assets. But the structure of this type of exchange is fundamentally different. To learn more, check out the full article on what a DEX is. But we can break it down into a few core concepts.
Firstly, Decentralized exchanges allow you to use your non-custodial wallet, which means you retain access to your private keys. These exchanges allow you to swap assets without forfeiting custody of the assets.
Then, Decentralized exchanges use either a decentralized order book system or an AMM. Both of these offer ways in which traders don’t have to rely on centralized entities to execute trades.
But how do they compare? Well, the nature of how these crypto exchanges work means their impact on the market is entirely different. When comparing DEXs vs CEXs, it’s important to note they have completely different strengths and weaknesses.
CEX Vs DEX What’s The Difference?
There are a few key differences when comparing centralized vs decentralized exchanges.
Custody of Your Keys (And Therefore Your Crypto)
As mentioned, centralized exchanges require you to use their own custodial wallets. Using a custodial wallet seems like the simple option as you don’t need to protect it yourself. However, entrusting your coins and tokens to another party means you don’t really own that crypto. If the exchange is hacked, censored or goes bankrupt, your funds are at risk.
On the other hand, a DEX does not exist as a central entity, there is no platform to put funds into. Instead, you simply connect the DEX to your existing non-custodial wallet, using your own private keys to manage your funds. This is far more secure than the centralized option, and allows you to remain in control of your own assets.
Centralized exchanges are also associated with ease of use. To explain, for most crypto users, a central exchange is where they make their very first purchase of crypto using their credit card – otherwise known as “on-ramping” into crypto. As a result, they often offer a clear, user-friendly interface.
Unlike CEXs, DEXs tend to be less friendly to new users. Since there is no central authority or big company raising funds, user experience is often a secondary thought. Plus, they do not offer on-ramping services, so you can’t buy your first crypto on these platforms.
While that can seem overwhelming, learning to use a decentralized exchange is no longer as difficult as it used to be. Plus, you can easily use Ledger Live’s on-ramping services to buy crypto from one of Ledger’s trusted partners while retaining custody of your keys.
A Centralized Order book Vs a Decentralized AMM
The next aspect to take into account when comparing a DEX vs a CEX is how it prices cryptocurrencies.
Centralized exchanges use an order book system. This is as simple as a long list of buy and sell orders, where the highest and lowest buy and sell orders are executed first. It’s the same system traditional banks use today.
Like centralized exchanges, the older generation of DEXs tend to operate using a decentralized version of this order book system. You might already know some Order Book DEXs, such as LoopRing, Gnosis Protocol or IDEX. All of these use an algorithm (instead of a central platform) to find and route the trades between individual users. Then, smart contracts record the exchanges on the blockchain to reflect the coins and tokens that are moving between buyers and sellers.
In other words, there is a market – but no one is in the middle selling for you, only an algorithm. This is how the service remains decentralized.
Then, there are Automated market maker DEXs, also known as AMMs. AMM DEXs came along to solve a key problem decentralized exchanges were facing: a lack of liquidity.
Instead of matching buyers and sellers, the trades on AMM DEXs use liquidity pools managed by the DEX’s own smart contract. The pool’s liquidity comes from users who provide their coins or tokens in exchange for passive income. For a more a serious trader, doing so can also be part of a broader yield farming strategy.
The exchange itself sets the price of trades between coins automatically, depending on the supply and demand for those assets. This is done through an algorithm that is constantly rebalancing to reflect changes in liquidity. It not necessarily in synch with the rest of the market.
You might already be familiar with the most popular DEXs – SushiSwap, Uniswap and Compound are just a few of the most prevalent. It’s important to note that they also offer a prime opportunity for eagle-eyed traders to make yield through arbitrage. To learn more about that, check out the full article on crypto arbitrage.
Liquidity on CEXs vs DEXs
Centralized exchanges are highly liquid. Most people’s first steps into crypto take place on a centralized exchange. Their order volumes tend to be higher than their decentralized counterparts. Plus, centralized exchanges offer incentives to large-volume traders. These traders then provide further liquidity to their order books.
Companies like Binance, for example, have recorded over $30 billion daily from transactions. The trading figures are so high, you’re likely to always find liquidity for the trade you need.
Conversely, Liquidity is a big issue for decentralized exchanges. Both the order book and automated market maker systems have their limitations. For order book exchanges, a lack of available trading partners might result in a slow trade time – and slippage – for you. Meanwhile, AMMs offering poor rewards for their liquidity providers might also find themselves with a deficit. So this is something to be considered when weighing up a DEX vs a CEX.
Governmental Sanctions and Regulation
With governments taking notice of crypto, it’s now necessary to confirm your ID before trading on most centralized exchanges. Usually, this is through a KYC or “know your customer” check. This is a way governments and centralized financial institutions identify money laundering and other criminal activity.
However, that’t not it. Since CEXs are centralized entities, they are also subject to their local laws. As we’ve seen in China and Iran, not all states are crypto lovers. Remember, giving custody of your keys to the exchange? With a CEX so easily shut down or limited by external authorities, you might not feel so bright and breezy about leaving your funds in their custody after all.
Conversely, DEXs are not managed by a single entity and therefore they are impossible to police. This keeps your assets much safer than if the platform is subject to laws in a specific country. Plus, since DEXs have no interaction with fiat money, they don’t need to be KYC compliant. This means you don’t need to provide for ID to begin using one. The good side of this is retaining your privacy. Your details are not porously left on the digital network for just anyone to tap or hack.
But don’t get carried away with ideas about anonymity! Although your DEX doesn’t require your data, almost everyone has to comply with Know Your Customer measures somewhere when they first buy crypto. Ultimately, every trade floating around in the blockchain ecosystem can be related back to the money’s real-world owner.
Access To Coins and Tokens
Centralized exchanges have decision-making power over which coins and tokens to include on their platforms. Options might not always reflect what users want to see and interact with, and likely won’t give users any early-bird advantage on new projects. For example, it’s unlikely that you will find memecoins on a centralized exchange.
On the other hand, the selection of coins and tokens on a DEX is not subject to the agenda of a central entity. Instead, users are more or less free to find the projects they like. One of the best parts of this is the ability to be an early adopter in up-and-coming projects you managed to get some alpha on. So for traders who don’t mind doing the research on new projects, a DEX is probably the first place they’ll go when placing their chips on the table.
Centralized exchanges are governed by a single entity. That single entity or institution says what goes and decides which improvements to make on the platform.
Many AMM-based DEXs decide on new platform improvements via their users instead. To explan, they offer their user base governance tokens, both to democratize control of the platform (a commodity in itself within the DeFi ecosystem) and as a reward for providing liquidity. This allows users to participate in the decision-making processes and the future of the exchange.
CEX Vs DEX: Which Is Best?
Choosing a CEX or a DEX depends on what you need it for. However, on the whole, trading is much safer on a DEX than a CEX. This is simply because you retain custody of your keys, can trade in a decentralized manner, and using a Ledger, it’s much more secure.
How to Stay Safe Using a DEX
Now you know how to compare a CEX vs a DEX, but do you know what you’re signing up to with a DEX. There are a few key considerations to take into account on decentralized platforms.
The Burden of Self-Custody
The only thing to be aware of when using a DEX is the burden of self-custody. Protecting your crpto can be a difficult job, as it’s all down to how well you protect your private key. The payoff is: You keep control of your assets.
Self-custody may well put you in the driver’s seat but remember – it also leaves you to deal with the storage and security of your exchange assets. You can’t simply leave them on the exchange. So making sure your crypto wallet is both compatible with the service and immune to risks will be key to your experience.
Plus, since decentralized exchanges list any coins, it is even more important to do your own research to ensure the authenticity of a project before you buy in. If the project is a rug pull, they could run with all of the money and leave you holding the bag. Or inexperienced developers may have created a smart contract with exploitable bugs. Either way, researching each project can help you make more informed decisions.
The final risk you have with decentralized platforms is blind signing. With DEX transactions powered by the omnipresent smart contract, the details of which often can’t always be displayed when you sign. Thus, taking steps to understand the risks and how to minimize them is essential.
So there you have it – a short overview of the things you should consider when comparing a CEX vs a DEX. Now you know the difference between them, which will you choose?
Crypto can be a confusing place to be, but a little reading can change that! The beauty of crypto is that it’s constantly evolving, finding solutions to the tensions faced by its users and striving to offer more. With a little learning, you can take full advantage of what the industry has to offer. Not just for your wallet, but for your life.