Trading on a CEX vs DEX What’s the Difference and What Are the Risks?

Centralized cryptocurrency exchanges

A centralized exchange is an intermediary organization that facilitates crypto trading between buyers and sellers. They are a third-party entity that provides services and oversees operation activities to allow traders to buy, sell, or exchange crypto tokens.

Similar to a traditional securities exchange, CEX generates income by charging a fee from users performing transactions through its platform. This is usually a percentage of the transaction, and it ranges between 0.1% – 1.5%. The platform controls the infrastructure, security, maintenance, and the entire system.

A CEX allows traders to buy or sell crypto using fiat currencies. Furthermore, a trader can also set multiple parameters like stop-loss for crypto trades. Alternatively, the ecosystem of CEX allows a trader to access advanced features like margin trading and lending within the crypto industry.

However, the control of the platform and of a client’s cryptocurrency funds remains in the hands of the exchange. Hence, if there is an attack, it can result in the loss of their client’s crypto funds. A number of attacks have been carried out on CEX crypto exchanges that have resulted in a loss of Bitcoins and other crypto tokens. Mt Gox, a prominent CEX exchange, got hacked in 2014 which resulted in a loss of more than 850,000 Bitcoins.

Key Differences Between Decentralized and Centralized Exchanges

Decentralized Exchange	Centralized Exchange
User controls funds	Exchange controls funds
Anonymous	Not anonymous
Advanced tools	Less new features
Less prone to hacks	More prone to hacks
Low liquidity	Liquidity

Access

The control of a user’s crypto tokens in a decentralized cryptocurrency exchange remains entirely with the users. In a CEX system, a certain control over user accounts and funds remains in the hands of the service provider.

One of the advantages of a third party gaining control is that in case a user loses access to private keys, the centralized exchange can run backups and the user may be able to retrieve the digital tokens. However, the drawback of this is that if the centralized exchange is hacked, a user may lose their crypto funds.

New features

In comparison to CEX, there are relatively few features offered by a DEX exchange. Moreover, a trader can access the decentralized exchange in order to convert one crypto token into another. However, DEX does not support any additional new features.

While centralized exchange allows a user to buy cryptocurrency using fiat currency, a user can’t access the crypto market using fiat on a decentralized exchange. Additionally, users also cannot access features including stop-loss, limits, or margin trading that are available on the centralized platform.

Regulatory requirements

A CEX usually requires a license to operate making them more liable to follow rules and regulations. In contrast, DEX operates on a distributed blockchain model making it nearly impossible to comply with legal regulations.

Furthermore, trading on a centralized exchange requires a user to submit their identification documents. While trading on a decentralized cryptocurrency exchange, a user is not required to submit any documents and this facilitates a degree of privacy to the users.

Security

Centralized exchanges are more prone to attacks from hackers in comparison to decentralized cryptocurrency exchanges. Considering this, DEX is more secure as a platform in comparison to a centralized exchange.

However, centralized exchanges have now started offering custodial services and cold storage of crypto assets. Storing user’s funds in an offline manner ensures that even their funds remain protected even in the case of an attack on the exchange.

Liquidity

A centralized exchange encompasses a wider audience and thereby has a higher trading volume. Moreover, a CEX ecosystem consists of multiple users buying or selling different assets. Multiple market participants and a constant flow of supply and demand enable centralized exchanges to maintain higher liquidity.

In contrast, decentralized crypto exchanges do not have multiple users buying or selling digital assets. The low trading volume in-turn results in low liquidity. This is one of the drawbacks of a decentralized exchange owing to lower market participation.

Fees

Crypto trading in a decentralized environment usually has zero or negligible transaction fees. This is a benefit for experienced traders that engage in multiple higher value crypto transactions.

While centralized exchanges levy fees on each transaction in exchange for providing services and operating the system. However, in comparison to the traditional market, the fees levied are low.

Popularity

The DEX method of trading in trading is relevantly new. Centralized exchanges are more popular in the community for crypto trading and investments. Lower market participation and low liquidity are the drawbacks in a decentralized network.

CEX vs. DEX: The Risks

Trading and investing in crypto carries risk regardless of which type of exchange you are using. However, the risks created by the two types of trading platforms differ.

CEXs

Exchange hacks are a real threat to centralized exchange users who hold funds on exchanges. This has happened in the past and is likely to continue to happen, especially when using smaller exchanges.
CEXs are subject to financial regulations that may change overnight, creating a potential risk for funds held in your wallet. For example, in the case an exchange is under investigation, your funds may be temporarily frozen or, in extreme cases, even seized.
Centralized exchanges typically require you to verify your identity. In the case of a data breach, this may lead to your personal data ending up for sale on the dark web. In that case, you could become a target of hacking or scamming attempts or identity theft.

DEXs

DEXs are non-custodial, which means only you have control over your funds. In the same vein, if you lose your wallet’s recovery phrase, you lose your crypto.This is why you must carefully store your key in a secure place.
Decentralized trading venues are built using smart contracts, which creates a certain degree of code risk. That means that if a trading platform’s code has bugs or vulnerabilities, it can be exploited and funds are lost. This, unfortunately, has happened a lot in the early days of the DeFi boom in 2020. To mitigate this risk, it is best to stick with leading DEXs.

CEX vs. DEX: The Bottom Line

Both types of crypto exchanges allow users to buy and sell crypto, with disparities in key elements such as liquidity, security, and usability.

For beginners looking to join the crypto space, CEXs provide a simple and fast way to trade. DEXs, on the other hand, are more suited for experienced traders looking for privacy and complete control over their digital funds

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