A decentralized exchange, or DEX for short, is a peer-to-peer marketplace where cryptocurrency traders transact with one another directly. DEXs enable financial transactions that aren’t mediated by banks, brokers, payment processors, or any other type of middleman, which is one of the main potential applications of cryptocurrency. The Ethereum blockchain is used by the most well-known DEXs, such as Uniswap and Sushiswap, which are a part of the expanding collection of decentralized finance (DeFi) technologies that enable a vast array of financial services to be accessed straight from a compatible cryptocurrency wallet.
At DEX, the DeFi volume is dominating at 6.6% and trading at $6.57 billion. Additional sources suggest that with more than 200+ DEXs operating in 2022, Uniswap(v3) holds the largest market cap. With millions of people visiting DEXs each month, its 24-hour trading volume exceeds $3 billion. Interestingly, the volume of decentralized exchange trading has increased by roughly 800% in the last two years, making it one of the most popular marketplaces globally.
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Working Methodology of Decentralized Exchanges
Let’s understand the working structure of DEX from a simple real-life scenario. You have heard of top centralized exchanges like Binance, Coinbase, KuCoin, etc.
Do you know how they work?
Since they are a centralized entity, they offer trade between fiat currency & crypto or crypto to crypto and vice versa. You can exchange your dollar for a crypto like bitcoin that will be stored in your wallet, or you can exchange Ethereum for Solana. Moreover, you can also perform additional activities like margin trades or setting limit orders where the exchange solely carries out each & every transaction. Furthermore, these exchanges decide the price of the particular cryptocurrency based on buy and sell orders, similar to stock exchanges like Nasdaq or NSE.
Decentralized Exchanges, however, work more transparently. Smart contracts govern their entire working process. These automated programs set the price of crypto based on an algorithm and utilize the concept of “liquidity pools.” A pool of funds where investors lock their money for interest-like rewards to facilitate trades.
Unlike centralized exchanges, transactions on DEXs are carried out entirely on blockchain and are built on open-source code. This implies that anyone willing to investigate the DEX’s workings is free to do so. Additionally, developers can create a new competing DEX based on the existing architecture with newly introduced features.
Why Should One Go for DEX?
Endless Options
What happens when we are presented with too many options?
We tend to find ourselves in a never-ending dilemma. Something similar happens in DEX. If you are a crypto enthusiast with a knack for finding freshly minted tokens, the DEX is for you. The exchange offers you limitless options of tokens from popular establishments or someone random. Due to the possibilities available in DEX, you can mint your Ethereum-based token, create a liquidity pool around it, and start selling it on the market.
Mitigating the Risk of Hacking
Theoretically, when you buy tokens from any DEX, they are stored in your own wallets rather than in some third-party centralized wallet, preventing them from hacking or breaches. Additionally, DEXs have also reduced the “counterparty risk,” where the central authority can default on your exchange rate, leaving you without a penny
Going Anonymous
Want to use DEX to buy or trade crypto without sharing your details?
You can go completely anonymous, as most DEXs do not require personal information.
Say Hello to True P2P
Decentralized Exchange has made transactions between parties secure, reliable, transparent, and, most importantly, free from intermediaries. It has made DEXs immensely popular in developing countries– where banking is limited. Anyone with smart devices can trade via a DEX.
What are some potential downsides?
Trickier User Interface
Sometimes, navigating through the decentralized exchanges may seem challenging. Some say one might require special knowledge, and interfaces aren’t that simple. Hence, you must be comfortable with the intrinsic challenges and motivate yourself to self-learn.
Vulnerable Smart Contract
Since DeFi protocols run on smart contracts, they’re only as secure as the smart contracts powering them. Even a minor bug in the code of the smart contracts can be exploited by hackers, causing a devastating effect on your wallet.
Unvetted Coins
By now, you know that DEXs aren’t governed by a central authority; hence, most of their tokens are generated by random parties. So, when you decide to make an investment in an unpopular token, ensure that you have thoroughly researched and secured your investment.
Interacting with a Decentralized Exchange (DEX)
DEXs like Uniswap & Sushiswap have modernized the trading of cryptocurrencies.
Here’s a simple yet effective guide to getting started in the DEX realm.
Connecting to a DEX
The most important step to getting started trading on a DEX is requiring a crypto wallet. The best and most secure wallet available is MetaMask, which is available as a browser extension or mobile app.
Setting Up Your Wallet
- Download and Install MetaMask: If you haven’t already, download the MetaMask mobile app from your app store or the MetaMask browser extension from the Chrome Web Store.
- Create Your Account: Follow the instructions to configure your novel wallet. Your recovery phrase is essential for accessing your wallet if you misplace your smartphone, so be careful to save it safely.
- Connect to the DEX: Once your wallet is configured, you can link it to a decentralized exchange (DEX) such as Uniswap. Look for the “Connect your wallet” option and follow the instructions on the DEX website.
Funding Your Wallet
For starters, you will need Ether in your wallet. This is because gas fees on the Ethereum blockchain must be paid in Ether.
Follow these steps:
- Buy ETH: Coinbase is a centralised exchange where you can purchase Ethereum. Register, complete the required verification, and buy ETH using the payment method of your choice.
- Move ETH to Your MetaMask Wallet: After making an ETH purchase, move the cryptocurrency to your MetaMask wallet. To do this, send ETH from your exchange account to Metamask’s wallet address.
Trading on the DEX
Now your wallet is loaded with Ether, you are ready to start trading:
- Select a Trading Pair: Choose the tokens you wish to trade on the DEX platform. For instance, choose the right combination to exchange ETH for another coin.
- Decide on the Trade Details: After reviewing the transaction details, enter the desired token’s amount for trade.
- Verify the Trade: Verify the transaction in your wallet on MetaMask. Remember that the petrol expenses are extra and not part of the DEX’s fees.
Charges on DEX
Liquidity providers divide the 0.3% fee charged by Uniswap, and a protocol fee might be added in the future. The gas costs associated with using the Ethereum network outweigh the DEX fees. One goal of the recent ETH2 update and several other “layer 2” alternatives like Polygon and Optimism is to reduce expenses and expedite transactions.
Takeaway
The concept of DEX is at its infant stage but has gained immense popularity over the years. Crypto trading has potential risks but is suitable for automated market makers. So, you got out to the crypto world and traded in a decentralized crypto exchange like a pro.
Also, if you want the best-decentralized exchange development solution for your venture, contact us today at info@webmobsoft.com
Nitin Gupta, the CEO of WebMob Software Solutions, is a visionary leader renowned for his innovative approaches to leveraging emerging technologies to transform businesses globally. Under Nitin's guidance, WebMob has evolved into a pioneer in fintech, catering to esteemed clients across Europe, APAC, and the Middle East. As a thought leader, he continues to drive WebMob towards new heights of success, cementing its reputation as an industry leader in the IT sector.