A cryptocurrency exchange is an online platform where users can buy and sell many kinds of cryptocurrencies.
In today’s maturing cryptocurrency market, there are many types of exchanges, including fiat gateways, crypto-to-crypto exchanges, decentralized exchanges and more.
In this post, you’ll learn about the various kinds of cryptocurrency exchanges and how to find the one that’s right for you.
Fiat gateways are cryptocurrency exchanges that offer fiat onboarding ramps for buying crypto with fiat.
These exchanges typically support the top traded cryptocurrencies paired with fiat currencies such as USD, EUR, JPY and more.
Since fiat gateway exchanges work with local governments to adhere to regulations, they are seen as safer alternatives to pure crypto to crypto exchanges.
For example, Coinbase has secured Money Transmitter Licenses from most states in the USA, and they’ve also launched Coinbase Prime, a trading tool targeted towards institutional-level investors.
Liquid is regulated by the Japan Financial Services Agency (JFSA).
Lastly, Bithumb and other KRW-based exchanges in Korea will soon be subject to regulation by the country’s FSC (Financial Services Commission).
Other examples of fiat gateway exchanges include Bitfinex, Bitstamp, and Huobi Global.
Crypto to crypto
Unlike fiat gateway exchanges, crypto-to-crypto exchanges only support buying and selling of cryptocurrency assets.
On these exchanges, cryptocurrencies are typically paired with Bitcoin, Ethereum, and exchange-specific cryptos such as QASH.
Many crypto-to-crypto exchanges also offer stablecoin pairs for users who prefer to trade with a USD-pegged cryptocurrency.
Crypto-to-crypto exchanges are typically not subject to the same stringent regulations as fiat gateway exchanges, and many smaller exchanges do not follow adequate security protocols.
Keep in mind that most fiat gateway exchanges also offer crypto to crypto trading. Liquid, for example, supports more than 100 cryptocurrencies.
An exchange that doesn’t rely on a centralized authority to match buyers and sellers is called a DEX (decentralized exchange) or P2P (peer to peer) exchange.
On these exchanges, users can link their cryptocurrency wallet to a smart contract platform that handles order matching and execution.
A few examples of decentralized exchanges include IDEX, Bancor, RadarRelay, and Waves DEX.
In their current form, decentralized exchanges have significantly less trading volume than their centralized counterparts due to lackluster user experience, slower performance and low liquidity.
Moreover, many so-called decentralized exchanges aren’t that decentralized and can be prone to attacks.
An ERC-20 DEX named EtherDelta experienced a DNS takeover where hackers were able to gain control over the exchange’s domain name and succeeded in driving user traffic to a fake website that closely resembled the real EtherDelta website.
Since trading on EtherDelta requires users to enter their ETH wallet private key, this hack resulted in many users getting their wallets drained.
In the coming years, the usage of decentralized exchanges will gain momentum if user experience and exchange liquidity are improved.
For many users, the idea of using a DEX over a centralized platform is appealing due to the uncertainty of tax implications when it comes to crypto assets.
Decentralization is a core ethos of blockchain and cryptocurrencies, and it only makes sense to have truly decentralized platforms to trade such assets in due time.
OTC (over-the-counter) exchanges act as a middleman layer between buyer and seller and are designed for high-value off-chain transactions.
Imagine you’re looking to buy 5 million USD worth of Bitcoin. You can try and buy it on an exchange, but you may struggle to find the liquidity you really need.
An OTC exchange (or an exchange that also offers OTC services) can help negotiate your order at a fixed price with a commission fee.
Since OTC orders are done in private, often through an online platform, via Skype or in person, the volume of the transactions is not recorded on a public price and volume aggregator.
While it’s impossible to confirm, many speculate Bitcoin’s OTC market, which typically requires minimum order sizes of 75,000 to 250,000 USD, is much larger volume-wise than public and transparent markets.
Examples of OTC exchanges include Genesis Capital, Cumberland Mining, Circle Trade and Bitfinex OTC Desk.
How do crypto exchanges generate revenue?
Cryptocurrency exchanges often generate revenue by charging trading and withdrawal fees.
In this model, each trade is subject to a small fee in the range of 0.1% to 0.3% of the order value.
Some exchanges adopt a tiered structure that lowers trading fees for high volume traders.
Furthermore, some exchanges do not charge fees for market making orders.
Similarly, most exchanges charge a withdrawal fee that is automatically calculated based on current market dynamics.
What to look for in an exchange
When searching for a cryptocurrency exchange to trade on, reputation, supported assets, liquidity and proper security practices are the four pillars to keep in mind.
An exchange’s reputation tells you almost everything you need to know. Cryptocurrency is a global phenomenon and news about scammy or shady exchange practices always spreads like wildfire.
Your choice of exchange may occasionally be limited by which cryptocurrency you want to trade.
For example, Coinbase, one of the world’s most popular exchanges, only supports a small number of tokens. If you’re looking to trade other altcoins, Liquid may be a suitable alternative.
Liquidity and volume
Filling orders is much easier on a high liquidity/volume exchange due to tighter spreads and less chance of significant price slippage.
Unless you’re a trader who specifically seeks out volatility on a low liquidity exchange, always look for a high volume exchange for the coins you’re interested in.
Over the past few years, cryptocurrency exchanges have experienced many high profile hacks.
It all started with a series of hacks at the infamous Tokyo-based Mt. Gox, where approximately 850,000 Bitcoins were stolen.
At the time, the stolen coins were worth 460 million USD.
Hacks have affected exchanges both big and small.
If you’re a trader who likes to keeps coins on-exchange, you may consider choosing one that keeps 100% of customer funds in cold storage like Liquid.
In the coming years, the cryptocurrency industry will undergo significant changes as mainstream adoption draws closer.
Centralized exchanges that don’t meet government regulations will be weeded out in the name of consumer protection.
For users who wish to stay true to the core ethos of cryptocurrency, decentralized exchanges will provide a gateway to frictionless P2P value exchange.
Whichever side you end up on, be sure to stay safe and educated in this constantly evolving industry.