Decentralized Exchange (DEX) Explained [Beginners Guide]

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In 2010, genuine interest in Bitcoin, the first cryptocurrency ever established, began to grow. Soon after, Bitcointalk, a website that provided a floating exchange rate for Bitcoin and established itself as the world's first cryptocurrency exchange, was founded.
More complicated exchange concepts have arisen over the years, largely powered by DeFi, that have provided investors with more alternatives for acquiring and selling their tokens (decentralized finance). Today, the centralized exchange (CEX) and the decentralized exchange (DEX) are key components of the blockchain ecosystem.

What is a centralized exchange (CEX)?

With great liquidity and cheap trading costs, CEX is the most widely utilized platform for buying and selling cryptocurrencies. They are easy to use and allow users to exchange tokens for fiat currencies or other digital assets via traditional order books; they also include staking, derivatives and futures trading, and other features.

These exchanges often act as token custodians, holding private keys and storing user cash on their platform, removing the need for consumers to worry about losing funds held on physical devices or forgetting their private keys.
Binance, Huobi, Coinbase, Kraken, Bithumb, and Bitfinex are some of the most popular CEXs today.
Many CEXs have introduced a range of security measures to safeguard your account from hackers and cyberattacks, such as KYC (Know Your Customer) and Google 2FA.
While CEX previously dominated the blockchain trading landscape, the emergence of DEX has been eating into their market share, ushering in a new era of decentralized trading.

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What is a decentralized exchange (DEX)?

DEX (decentralized cryptocurrency exchange) is a platform that facilitates the trading of digital assets inside the DeFi (decentralized finance) ecosystem. They work on the decentralization concept, which means they don't require the involvement of a central authority.

Decentralized exchanges allow you to trade cryptocurrencies directly amongst investors, rather than through a centralized exchange. As a result, users are not required to transmit their own assets to the exchange, lowering the danger of theft or hacking on the exchange computers. Trading fraud and price manipulation are also prevented by the decentralization of trade.
DEX may be accessed using decentralized and non-custodial online wallets (e.g., MetaMask, Coinbase Wallet), where users can request authorization to access smart contracts. While they have a little longer learning curve, the current DEX functionality and interface are rather fluid and seamless, so it's generally worth taking the extra step.
Uniswap, PancakeSwap, and SushiSwap are among today's largest DEXs in terms of trade volume. Many of these DEXs support Ethereum, Binance Smart Chain, and Polygon (Matic), to mention a few.

Why DEX?

DEX has a number of advantages over its CEX competitors, including:

To take advantage of lower-cost possibilities, multi-chain exchange capabilities are available.
Trading anonymity has been improved (no KYC).
It allows individuals to have total control of their money (higher security).
Integration of DeFi with NFT on a larger scale

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DEX Advantages

Decentralized cryptocurrency exchanges are unquestionably more secure than their centralized equivalents. Because there is no single central location to store data, there is no possibility of this sort of exchange being shut down due to a single failure.
Even the most secure centralized exchanges can be hacked, resulting in the loss of a significant amount of money from virtual client wallets. In the case of a decentralized exchange, such a circumstance would not be conceivable. Each user has total control over their private keys on the DEX platform; they are not stored on the exchange.
Another benefit of the decentralized stock exchange is its resilience to censorship. Neither censorship nor applicable legislation applies to DEX platforms. Because they are not owned or controlled by a single individual, the government has no authority to censor, monitor, or regulate user transactions. This is a big benefit, as several nations have opted to prohibit trade in order to severely restrict or impede the growth of the cryptocurrency industry on their own soil.

Drawbacks of DEX

Decentralized bitcoin exchanges have a number of drawbacks, the most significant of which is their restricted usefulness. DEX, or decentralized exchange, is definitely missing several key features. There are flaws, such as not having stop loss mechanisms and trading with leverage, that can diminish our efficacy as traders.
Some decentralized cryptocurrency exchanges are already working on introducing new tools to assist consumers, although it may be a while before they are fully implemented. Although their user interface is improving all the time, decentralized exchanges can be tough to use as well. Another disadvantage is that fiat cash cannot be used.
Because of their aversion to any kind of centralization and the unique nature of their operations, traditional currencies cannot be exchanged because this would compel the platform to do something it did not want to do in the first place. As a result, crypto investors may only trade by utilizing cryptocurrency deposits.
There are no particular estimates or purchase orders available. Everyone has the ability to add liquidity to the pool of their choice on a decentralized exchange. Unfortunately, those that offer this liquidity are able to obtain it rapidly, which might pose issues with the selling of certain tokens. As a result, it's critical to make sure the liquidity for the pair you wish to trade is locked.

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Uniswap - Most popular DEX

Uniswap is a protocol that allows sellers and purchasers to trade ERC20 tokens without using an order book or an exchange. It employs a computational calculation that calculates the exchange rate depending on the balance of the two tokens in question, as well as the current demand for the chosen pair. Uniswap is a highly user-friendly interface that allows investors to trade tokens without having to create an account or go through any KYC requirements.

Database differences between centralized exchanges and Uniswap

The following table outlines the differences between a centralized exchange and a DEX with regard to the backend and database.

Type	Centralized exchange	Uniswap
Distribution & transparency	The frontend code is kept private by the exchange and runs on infrastructure the exchange controls.	The frontend code is shared in the Uniswap GitHub repository.
Control	The frontend runs on infrastructure the exchange and its hosting provider control.	Anyone in the community can launch their own website that interacts with the Uniswap DEX.
Functionality	The frontend receives data from the backend, for example to get the exchange rate for the market USD/ETH. The frontend code also sends instructions to the backend, for example to execute a trade.	The frontend code only receives data from the DEX smart contract. It does not send instructions to the backend. Instead, the user sends instructions to the smart contract directly from their client device using an Ethereum wallet like MetaMask. The frontend code makes this process more user-friendly by setting up the transaction for the user.
Transaction authorization	The transaction authorization is performed in the frontend code, usually with a cookie or an access token stored in the browser.	The user authorizes the transaction by generating a transaction signature using their private key, stored in MetaMask. MetaMask then pushes the transaction to the smart contract.

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Summary

The blockchain ecosystem includes both a controlled exchange (CEX) and a decentralized exchange (DEX). The most popular platform for buying and selling bitcoins is CEX. Rather of using a centralized exchange, decentralized exchanges enable you to trade cryptocurrencies directly among investors. DEXs have several benefits over centralized exchanges, including increased privacy and complete ownership of your private keys. It might be challenging to use decentralized cryptocurrency exchanges.