While Centralized Exchanges (CEXs) have plenty of liquidity and allow large trades to happen, it still carries many risks because users do not hold custody of their assets in exchanges, due to the introduction of Decentralized Finance, Decentralized exchanges were developed.
What Decentralized Exchange (Dex): A Dex uses Smart contracts and on-chain transactions to reduce or eliminate the need for an intermediary.
Dex includes, Uniswap, Kyber Network, Curve Finance, dYdX, and SushiSwap.
Types of DEX?
There are two types of DEXs: • Order book-based DEXs • Liquidity pool-based DEXs.
Order book-based DEXs: These types DEXs like dYdX and Deversifi operate similarly to CEXs where users can set buy and sell orders at either their chosen limit prices or at market prices
liquidity pool DEXs:
liquidity pool DEXs such as Uniswap and Balancer let users become the market makers by providing liquidity to a pair or pool of assets. Users deposit their assets and become liquidity providers, earning a small fee for each swap transaction performed for that particular pool.
Differences between Centralized Exchanges and Decentralized Exchanges
The main difference between the two is that for CEXs, assets for the trade would be
held on the exchanges’ wallets, whereas for DEXs, assets for the trade would be held in users’ wallets.
Limitations of Dex
Lower liquidity:
The majority of crypto trade still takes place in centralized exchanges. Historically, order books on CEXs have been deeper when compared to DEXs, and traders can thus get better prices when making trades on CEXs.
Limited features Centralized exchanges include many advanced trading features such as limit orders, stop-loss orders, trailing stops, and so on. Most of these trading features are not available on DEXs.
Some DEXs now offer limit orders, allowing for a better trading experience. However, a growing number of DEXs are looking to introduce these advanced trading features to compete more effectively against CEXs.
Blockchain Interoperability Most DEXs today only allow traders to swap tokens within the same blockchain ecosystem. Ethereum-based DEXs, for example, only allow users to trade Ethereum and ERC-20 tokens. It does not permit traders to trade tokens issued on other blockchains like Polkadot or Cosmos. CEXs allows users to trade tokens on various blockchains easily. There are efforts to build cross-chain DEXs, and in the future, trading tokens across multiple blockchains on a DEX will be possible.
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