Centralized Exchange (CEX) in Cryptocurrency

Fredrick Awino
30.08.2022
1384 Views

Something that any serious person involved with cryptocurrencies as a trader or otherwise knows is that the coins are bought from various reputable exchanges. In any case, a cryptocurrency exchange acts just like any other brokerage by allowing investors or traders to use fiat money to buy any crypto of choice. Some exchanges have few yet others allow purchasing of all possible crypto.

WARNING: Investing in crypto, or other markets, can be of a high risk for your savings. Do not invest money you cannot afford to lose, because there is a risk for losing all of your money when investing in crypto, stocks, CFDs or other investments options. For example 77% of retail CFD accounts lose money.

Cryptocurrency exchanges act as a gateway for any person who wants to be part of the crypto assets world. There are two main types of crypto exchanges, decentralized exchanges, and centralized exchanges.

Crypto exchanges are the destinations for selling and purchasing any crypto. Just like the name Centralized exchanges, they are controlled by a central organization. It is the central organization that exerts ownership of the exchange. In short, the centralized exchange act as an intermediary between the sellers and the buyers.

The traders using CEX do not trade fiat and cryptocurrency directly. Instead, it is the exchange that has custody of the deposited funds. Besides, the CEX is a highly used crypto exchange. This is due to its efficiency and fastness in processing financial operations.

Although CEX is centralized, the cryptocurrencies utilized in the transactions remain decentralized. In short, this means that CEX does not have any control over the operations or even network of any crypto asset. CEX is a third-party platform and a central entity operates it.

The Way CEX Works in Cryptocurrency

CEX works as a third party. It offers efficiency and security in crypto asset transactions among users. Instead of people exchanging money between themselves, traders deposit funds in a digital wallet in the exchange. After CEX takes custody of the funds, it offers a corresponding number of credits or I Owe You (IOUs) to the traders. It is CEX that oversees tracking credits or IOUs when a transaction is conducted. Besides, at the point of withdrawal, they can be turned into fiat currency.

Most traders are familiar with the stock exchanges’ work. They play the role of trading, selling, and purchasing stock in real-time values. Therefore, a centralized exchange just works as a stock market. However, it is slightly different because instead of stocks it enhances the exchange, sale, and purchase of virtual currencies.

In being a user of any CEX, one should undergo Know Your Customer (KYC) verification. Here, you may provide documentation such as a full permanent address, biometrics verification, name identity as well as ID evidence. After authentication, the exchange offers users login information. This is to enable the users to access their account, read and understand the rules and regulations then go ahead to commence trading.

The members using the CEX do not have the capacity of swapping assets directly. As an alternative, the exchange offers custody of the assets deposited in the company by the users. It then releases the same amount of quantity of IOUs to the dealers. The transfer only takes place during withdrawal. IOUs work as a smart contract in the CEX.

Furthermore, in conducting transactions, the CEX utilizes Order book technology. The technology is responsible for keeping track of all pending transactions. This is to enable the traders to sell or purchase securities accordingly.

The Difference between CEX and DEX

The centralized and decentralized exchanges are unique in their own ways. For instance, in terms of decentralization, the CEX is operated with a centralized institution. However, the DEX is operated by liquidity providers as well as users.

Furthermore, regarding assets custody, in DEX the users have exclusive control over their assets. On the other hand, in CEX, the centralized exchange institutions are the ones that control access to crypto assets. Besides, while DEX is always accessible to the users, CEX highly depends on a centralized firm that operates the exchange.

On the issue of impermanent loss, in CEX, there are no concerns about impermanent loss because of high liquidity. However, in DEX, the impermanent loss is a highly possible risk in case of market fluctuations. Moreover, CEX is highly regulated while DEX does not have any AML or KYC standards. Also, while CEX is responsible for the security of the traders while in DEX, the traders are responsible for their own security.

For trading options, in DEX they are limited to crypto lending as well as borrowing and speculative investments. However, CEX has several trading options. Some include futures trading and spot trading. In terms of liquidity, since DEX is not regulated and there is no competition from CEX, there is reduced liquidity. CEX on the other hand is highly liquid. This is because it has a larger user base and institutional investors.

In terms of fees, CEX is very expensive. The reason is that it is the third parties that engage in the trading process. They do it on behalf of the trader. On the other hand, DEX is cost-efficient. This is due to the fact that they do not have any trading fees or commissions.

The Advantages of Centralized Exchange (CEX)

Most crypto users have purchased their cryptos through an exchange. However, you must know the type of exchange you are using. As I have discussed above, CEX and DEX are different in terms of liquidity, regulation, and the rest. Therefore, CEX as a type has some advantages such as ease of use, liquidity,

Ease of Use

CEX institutions have a friendly interface. Besides, it has many analytical tools and additional services that make trading easier. The good interface also increases satisfaction to the user and reduces search time. Also, they are more convenient. In centralized exchanges, a trader spends just a few seconds completing transactions irrespective of their size.

Transparency

The centralized exchanges are open to disclosing information. The reason is that their public headquarters and team members are disclosed to the public. Besides, since they have more users than DEX, they are under heavy scrutiny from the authorities, government officials, and the public.

Liquidity

High amounts of funds that are concentrated on exchanges allow a user to make exchange transactions for any amount instantly. The strategy enables you as a trader to withdraw and deposit funds quickly. Thus, liquidity is identical to high-speed transactions.

Speed

The centralized exchanges operate efficiently. This happens especially during high load times and stress because they run on architectures and centralized servers. Besides, this is a great benefit as it enhances quick trade order execution in a centralized order book. Furthermore, it reduces the time needed in processing orders in case of high volume.

Regulatory Compliance

Most centralized exchanges try to be compliant with government authorities and regulations. For instance, exchanges including Gemini, Bittrex, and Coinbase need the users to verify their identity using KYC procedures. This strategy allows them to operate smoothly.

The Disadvantages of Centralized Exchange (CEX)

As much as CEX may have its advantages, it has some disadvantages. Some of the limitations include a monopolistic environment, security, downtime, and inadequate censorship.

Monopolistic Environment

CEX and DEX are not in a competition. Thus, only a few centralized exchanges have taken a large part of the market share. This issue has made some of the top exchanges charge projects millions of dollars as they know that there are no other alternatives. The new projects are charged highly so that they can be listed on the exchange. Besides, since these exchanges are centralized, they tend to accumulate so much power. This limits the potential adoption and growth of cryptos.

Security

The CEX operates from one point of failure. It may include a central server, wallet, or database. Therefore, one may hack the system and this will make the traders lose their investments. For instance, Mt. Gox, a central exchange was hacked in 2014 and the investors lost $450 million. Several other incidents have taken place with the other cryptos.

Inadequate Censorship Resistance as well as transparency

The CEX is very vulnerable to government censorship. Some may have their license revoked or even funds seized. In some cases, some are usually coerced to provide important information regarding their users and the amount that they have invested. Thus, it may not be the best platform to use as an exchange.

Furthermore, in some cases, the government has made CEX shut down or even get banned. This has happened in nations such as China and India. On the issue of transparency, CEX may seem transparent on the surface. However, due to inadequate regulations, some of the exchanges engage in questionable behavior and activities. For example, some have misused their users’ funds. CEX practices activities like price manipulation and wash trading.

The Popular CEX

Most of the cryptos are global and decentralized assets. They do not have a single controller or even an owner. It means that any person having the required tools and knowledge may develop a cryptocurrency exchange. Because of losses and scams, it is important to stick to reputable exchanges. The following are some of the top crypto exchanges:

Binance

Binance is believed to be the largest crypto exchange across the world. It is on top in terms of daily cryptocurrency trading volume. Also, Binance offers a versatile and secure way of trading and investing in cryptos. Also, as compared to the other crypto exchanges, it has lower fees.

Gemini

Winklevoss Twins run this crypto exchange. Besides, it is an established exchange that also has a respected stablecoin. It provides users with ways of earning rewards. This acts as a motivation to the users as they know that by using and referring people, they get rewarded. However, it has high trading fees.

Coinbase

Coinbase is among the top crypto exchanges. Furthermore, it is a publicly traded firm with its available stock. The platform is so great for new crypto traders and beginners. Just like other exchanges, its fees may go up highly sometimes.

OKX

This crypto exchange was founded in 2014. It serves millions of traders across the globe. OKX has a great interface that is easy to use for beginners as well as experienced traders. Besides, the crypto exchange has a low fee structure based on the market taker. Additionally, it has low withdrawal fees and zero deposit fees.

KuCoin

KuCoin is a great crypto exchange for any crypto investor. Additionally, it has high liquidity and a huge number of users on its platform. Apart from that, it has low trading fees and a huge selection of supported services and assets.

Author Fredrick Awino