Decentralized exchanges facilitate cryptocurrency trading on a distributed ledger and do not hold customers’ personal data, account balances, portfolio allocations or fund positions.
While DEXs are not a surefire way to make investors immune to criminal behavior, they provide far greater control over our coins than their more centralized counterparts. With this in mind, let’s take a deeper look at what defines a decentralized exchange and the key considerations investors should take when choosing their preferred DEX.
How do DEXs work?
Decentralized exchanges use smart contracts to enable traders to exchange assets without the need for an intermediary. Meanwhile, the services offered by centralized exchanges can be compared to those available through banks. These centralized exchanges store our crypto in central locations and provide their own levels of security and monitoring, which can help make it easier to move coins around and exchange them on an online platform.
Due to their decentralized nature, DEXs allow users to trade directly from their wallet by implementing smart contracts behind the trading platform. This gives traders full responsibility over their crypto and only they will be blamed if money ends up in the wrong wallet or they lose their private keys.
Leading decentralized exchanges are built directly on blockchains that support smart contracts. Using the vast Ethereum decentralized financial ecosystem, there are currently a wide range of exchanges that allow users to access countless crypto-assets that their centralized counterparts cannot access.
But which DEX is best equipped to suit your needs? Let’s take a deeper look at five considerations investors should make before choosing a decentralized exchange.
1. Evaluate your cryptocurrency goals
While decentralized exchanges are great for delivering greater levels of control over your cryptocurrencies and can provide access to far greater amounts of assets compared to centralized exchanges, it’s important to note that they can be difficult for inexperienced traders.
To start trading with a DEX, you need to have an external cryptocurrency wallet like MetaMask and connect it to the DApp. While this process can be automated, it can also become tedious for users who are used to having their wallet embedded in centralized exchanges.
With this in mind, if you’re an investor who just wants to buy and hold Bitcoin, it might be worth embracing centralized exchanges and either keeping your coins in their built-in wallets or transferring them to an external wallet for long-term retention .
2. Consider the cryptocurrencies you want to trade
Although a DEX can allow traders to discover huge volumes of small-cap cryptocurrencies to exchange, the options are limited to their respective liquidity pools. This means that some exchanges will have more choices than others.
For example, Uniswap has around 5,500 tokens to exchange, SushiSwap has more than 1,400, and Pancake Swap has only 290 tokens.
Elsewhere, 1Inch supports thousands of tokens due to the DEX crawling more than 50 Ethereum liquidity sources to offer competitive trading rates, which can be a great resource for traders looking to access the largest possible pool of cryptocurrencies.
Before deciding on a DEX, keep in mind which coins you are most likely to exchange and check to see which exchanges host them.
3. Understand your risk tolerance
Centralized exchanges usually go through a vetting process before listing new tokens for users to buy and trade. However, due to the decentralized nature of DEXs, it is possible for just about anyone to create a coin and list it for individuals to purchase via a decentralized exchange.
This makes DEX users more vulnerable to blanket pulling, where a coin owner opens their cryptocurrency up for purchase before withdrawing their significant stake in the asset – causing it to crash.
Even if you are happy with the coin you have researched and want to buy, it is worth remembering that small-cap coins such as those listed exclusively on DEXs are more prone to have far greater levels of volatility than their counterparts with greater capital. This can make coins riskier to hold.
4. Consider ease of use
Different exchanges have different interfaces and varying levels of complexity. It is important to know the differences between the likes of Pancake Swap, 1Inch, SushiSwap and Uniswap when it comes to ease of use.
For newer users, the simplicity of SushiSwap may have more appeal, although Uniswap has established itself as a market leader across the DEX landscape, and its simple design along with various extra features show why it is preferred by so many traders.
5. Weighing the dangers of uncontrolled tokens
Finally, it is important to cover the dangers of uncontrolled tokens listed on DEXs. Because they are decentralized platforms, you are more likely to encounter a scam using a DEX due to the high volumes of available cryptocurrencies available for purchase throughout the ecosystem.
Whether it’s a copycat coin designed to trick investors into buying into a blanket scheme, or a Ponzi scheme that the owner has paid a cluster of influencers to promote before withdrawing their equity, be vigilant when using DEX.
For the many of us who have concerns about being scammed out of our money, it may be worth choosing a DEX that actively promotes crypto and blockchain knowledge to its users.
Although many DEXs have tried to introduce risk assessments before setting up a trade, such as Pancake Swap’s traffic light risk assessment system, users need to spend more time researching assets before buying them.
Alongside Pancake Swap’s helpful risk warning system, all DEXs such as SushiSwap, 1Inch and Uniswap have helpful blogs and guides listed on their respective websites to help users stay aware of any threats.
Interoperability is rewarding
Many investors don’t just look for a preferred DEX and instead choose to connect their wallet to the most useful exchange at the time that best suits their needs. This allows users to assess risk through Pancake Swap while continuing to trade crypto using Ethereum on alternative exchanges as and when needed.
Whether you are taking your first steps into crypto or are a seasoned trader waiting for their third bull run, using a DEX can be a great way to keep your resources under control and bypass the security vulnerabilities of centralized exchanges. Furthermore, with the right amount of research and external wallet usage, using a DEX to make exchanges can become completely seamless.
