Cryptocurrencies in general, like Ethereum for example, are peer-to-peer based payment system that allows people to transfer the tokens without a central authority. A network of miners validates transactions thereby making fraud and censorship problems of the past. While the ether in that case is generated in a decentralized way, the way we convert money (or fiat money) to and from ether is still centralized by a few players: the exchanges.
Centralized exchanges are easy to use and provide access to trading functionality like margin and limit trading. They provide this functionality at a risk of your funds. Hacks are common, and the Mt. Gox hack where around $473 million was lost is the most well-known hack. There are also hacks of Bitfinex and MyBitcoin which have led to the loss of thousands of user’s funds.
So how do you exchange currency? The answer is in decentralized exchanges.
A decentralized exchange is an exchange that does not rely on a third party to hold funds. Trades occur directly between users using an automated process. This type of exchange is in contrast to the centralized model where an exchange issues temporary funds in exchange for a user’s deposit; the temporary funds can be freely traded on the exchange’s platform and converted into ether whenever the user wants to make a withdrawal.
Benefits of decentralized exchanges
The benefit of a decentralized exchange is that you do not have to trust the exchange to hold your funds because you hold your funds in your ether wallet instead of a third party. Another advantage is privacy: you do not have to disclose your personal details to anyone other than what’s necessary to share with the person with whom you’re dealing with. The final benefit of a decentralized exchange is that there’s never any downtime because a decentralized exchange is hosted on many nodes.
Drawbacks of decentralized exchanges
The drawbacks of a decentralized exchange include no support for things like limit trades, margin trades, stop loss and other capabilities.
In addition, some decentralized exchanges require users to be online for an order to be listed and for the trade to take place.
Bisq is a decentralized exchange that uses open-source software for its platform. It allows users to buy and sell cryptocurrencies like Ethereum without the need to trust funds to a third-party, so transactions occur directly between buyers and sellers. Internally, Bisq uses a decentralized multi-signature escrow system.
Bitshares Openledger is a decentralized exchange that internally uses its own currency called BTS which you trade against other currencies. There’s a Windows download as well as an online version available. Because it is a decentralized exchange, the signup process makes it clear that should you lose your password, Bitshares has no way of recovering your funds, so take appropriate precautions with your password.
Etherdelta is a decentralized exchange that allows you to trade cryptocurrencies including Ethereum. It has one of the widest choice when it comes to all of the newest tokens and after ICO projects. It is integrated with the MetaMask wallet discussed in our other article.
Future exchanges currently in development hope to bring to market features like currency to currency exchange, eliminate the need for proxy tokens like BTS, and advanced security. There are many ICO projects that aim to achieve this. You can browse and find the most interesting or the highest rated in our ICO section.