Custodial vs. Decentralized Exchanges: What’s the Difference?

To say that cryptocurrencies are gaining popularity is an understatement considering the booming in crypto-related activities. The adoption process may have been slower than expected, but coronavirus’s rise availed the opportunity for growing digital currency exchange. Even governments are working towards establishing their sovereign digital currencies, the Central Bank Digital Currencies (CBDCs).

In that context, people need avenues to trade, store, exchange, and liquidate their digital assets. Therefore, there is a rising introduction of crypto exchanges to facilitate these activities. Over 600 exchanges exist presently, bringing in a blend of both custodial and decentralized exchanges to choose from within the markets. Now comes in the controversial question, which of the two is better?

Custodial Exchanges

You probably know custodial exchanges better under the title of centralized exchanges. As the name suggests, these exchanges require you to delegate your digital assets to an institution for safekeeping. Therefore, while you buy or sell crypto assets, you trust the exchange to handle the cryptocurrency holdings. The process works more like that of traditional banking systems whereby you deposit and make transfers under the banks’ regulations.

Custodial exchanges are helpful in terms of providing a secure and active follow-up of your assets as long as they are within it. They also offer a platform to find other traders while utilizing the in-built technology for all exchanges. As the user, you have to trust the exchange with your private keys, eliminating risks associated with forgetting or misplacing the same.

One of the well-known custodial exchanges is BitFinex, Binance, Kraken, Bithumb, and Coinbase.

Pros of Custodial Exchanges

Custodial exchanges have advanced features to maintain their systems. Nonetheless, they are easy to navigate even for novice traders. They further offer varieties of wallets that can handle fiat-to-crypto exchanges at low transaction fees.

Fiat payments are possible through credit cards, debit cards, and bank wire transfers. All the undertakings offer setting limits and have a stop-loss feature.

Custodial exchanges eliminate the need to keep your private keys, saving you from dangers when it comes to remembering them. Furthermore, the systems are under insurance protection, siting as a more lucrative option for traders.

These exchanges offer very high trading volumes that encourage the liquidity of their networks. It makes them a more popular option, with the highest percentage of trades still ongoing on these platforms.

Cons of Custodial Exchanges

The first and most crucial thing to note is that custodial exchanges dissolve the privacy of users. A user has to submit their personal information during sign up, which beats the whole sense of crypto payments being anonymous. Likewise, there are risks of identity theft and the like.

Custodial exchanges have a central owner, involve third parties, and provide their locations with government institutions playing a significant role in the highly regulated environment. It puts them at risk of total control or closure by governments.

The third risk is in the security of the system. Even though these exchanges invest largely in safety precautions, their centralized nature makes them vulnerable to hacks and other cyber-crimes. The other problem with centralization is being prone to downtime as the systems depend on how robust the infrastructure is.

The exchanges also limit the amount of withdrawal or deposits one can conduct within their networks.

Decentralized Exchanges (DEXs)

Decentralized or non-custodial exchanges are those that discard the need for third-party involvement in crypto trade. They facilitate peer-to-peer transactions between users automatically, offer no personal information requirements, and other features promoting decentralization.

Compared to the custodial exchanges, they lack the same popularity that the centralized platforms have. This factor does not discredit the chances they have in overthrowing custodial exchanges.

In decentralized exchanges, every crypto asset holder is responsible for their assets. The networks have no control whatsoever over the private keys as you keep your cryptos in your wallet. DEXs support digital currency exchange only.

Advantages of DEXs

Due to the decentralized nature, DEXs have no downtime as nodes work independently, avoiding network congestion. Furthermore, it maintains a highly secure space devoid of cyber-security implications. Government involvement is out of the picture; therefore, no risks of closure considering the lack of location information.

Atomic swaps are a growing feature due to their interoperability capabilities, and DEXs take up the chance to leverage them. Consequently, exchange on different decentralized exchanges is possible.

DEXs value user privacy maintaining anonymity on the platforms; it curbs the possibilities of identity theft. Bank transfers are the only proceedings that require disclosure of personal identity to the person you sell to or buy from, cryptocurrencies.

There are no limitations in deposit or withdrawal amounts in DEXs. Moreover, there are no trading fees associated with all trading activities on these platforms.

Disadvantages

DEXs are yet to gain the same mainstream adoption as custodial exchanges. The trading volumes are significantly low. Likewise, it holds implications for the liquidity of the networks.

The primary reason for lack of popularity is a difficult user-interface unfavorable for most average traders. They also present limited functionalities lacking stop-loss features, margin trading, and more.

DEXs lack insurance backing, which is a discrediting factor for most investors, as crypto trading is full of risks.

Overall, DEXs may not be the perfect match for most traders now, but they are catching up to speeds. Custodial exchanges present several downsides that investors cannot ignore. The future is bright for DEXs, which, despite their slow adoption compared to their centralized counterparts, is still flooding the market.

Block DX Decentralized Exchange

One of the promising DEXs today is Block DX boasting as the fastest, most secure decentralized exchange option. The exchange works on the Blocknet protocol, which is interoperably facilitating cross-chain transactions with other decentralized exchanges and blockchains.

Among the significant advantages of the exchange is non-custodial services, atomic swaps enabling cross-chain interoperability, censorship-free, open-source, trustless, and more.

It offers a variety of services such as decentralized order books and matching, instant trading activities, Blocknet wallet, to mention but a few. It has its native token, BLOCK token; users can conduct payments with it on the system.

The promising DEX is going to offer its customers more convenience through its API system. It is currently working on a listing for BLOCK on Coinmarketcap to expose the token’s potential to the crypto world.

Angela Scott-Briggs: Editor TechBullion.com | Interested in Innovations in Business, Finance, and Technology .
Related Post