When thinking of a crypto exchange, the first analogy to come to mind is a stock exchange. A crypto exchange is a place where users can trade digital currency for other coins or traditional currencies such as dollars or pounds.
Without the use of an exchange, users would have to go to the trouble of finding someone interested in what they have, then settling on an exchange rate with that individual, and then sending the currency directly to each other's wallets. Exchanges just make everything easier for all parties involved. Choosing the right exchange for your needs could be a bit tricky as there are literally hundreds of different options available. So, how do you go about deciding which to use?
There are three types of crypto exchanges: Centralized (CEX), Decentralized (DEX), and Hybrid.
Let's start with Centralized Exchanges. These are usually more user-friendly. Their use is more widespread, they tend to have more readily available customer support and even have insurance in the event of a platform failure.
Centralized exchanges also employ KYC (know your customer) practices in order to comply with AML (anti-money laundering) regulations. If you have ever opened a bank account this process will feel familiar due to the types of questions asked.
One thing to keep in mind is that Centralized Exchanges are more vulnerable to hackers.
Decentralized exchanges are more akin to the spirit of Bitcoin in that they have no central point of control. The servers are spread across the world, meaning that one computer being attacked does not compromise the entire exchange. This is enough to incentivize some to prefer decentralized vs centralized.
The registration process is also less rigid than with centralized exchanges, so if sharing your personal information makes you uneasy, decentralized may be best for you
This platform isn't without its own drawbacks, however. While more secure, they tend to have a lower trading volume and lack the customer support of centralized exchanges.
Hybrid exchanges are the new kids on the block. These platforms look to provide the best of both worlds. Greater functionality, as well as security, are the aim here. Hybrid Exchanges are still relatively new and as such, their future is uncertain. High costs, limited assets, and limited scalability are the hurdles to overcome for these.
Just like with your brokerage account, you will notice that crypto exchanges charge a series of fees. These come in two flavors:
A. Exchange fees - These are essentially service fees and they are how the exchange makes money:
a) Trading fees, also called maker/trader fees, are charged when engaging in a transaction.
b) Deposit fees are charged when adding money to your account.
c) Withdrawal fees are charged when you take money out of your account, be it as regular currency or crypto.
d) Account fees are charged on an ongoing basis in order to keep the account open, usually monthly.
B. Network fees - These get paid to crypto miners. Many centralized exchanges incur this cost but also allow users to pay more in order to speed up transactions. On decentralized exchanges, users are the ones to shoulder this cost.