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What is a CEX (centralized crypto exchanges)?

what-is-a-cex-a-beginners-guide-to-centralized-crypto-exchanges
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What is a CEX (centralized crypto exchanges)?

CEX or Centralized crypto exchanges have been a crucial factor in the development of the global crypto markets. In this article, we’ll explain what centralized exchanges are, how they work, and examine their pros and cons.

What is CEX in crypto?

A centralized crypto exchange (CEX) is a platform for trading cryptocurrencies. It is an intermediary between buyers and sellers, matching trades in a centralized order book.  

Centralized crypto exchanges use a business model similar to traditional online brokerages, which is why they are so popular, especially among new crypto investors. They have the same look and feel as the online trading platforms that equity and forex traders are already used to.

In addition to offering easy access to the crypto markets, leading CEXs are often regulated and adhere to strict compliant rules, making them safer platforms to trade on. Moreover, centralized exchanges typically offer a range of other crypto-powered financial products and services – from crypto cashback cards to crypto savings accounts – to provide an end-to-end experience for crypto traders and users.

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How do CEXs work

Centralized exchanges provide an order book to process buy and sell orders traders post. An order is a request to buy or sell a digital asset at a specific price. Exchanges aggregate these orders and match the corresponding buy and sell orders using a matching engine.  

Most CEXs will require you to verify your identity and complete KYC/AML background checks to start trading. The severity of this depends on regulatory compliance laws from one jurisdiction to another. 

Next, you must fund your account by depositing crypto or fiat currency into the platform wallet. On some trading platforms, you can also link your credit card to the exchange to purchase cryptocurrencies

Then, you can buy the digital currency or token you would like by placing an order. Exchanges typically offer a range of order types, such as a limit, market, and stop-loss order. Once your order has been filled, you will receive the cryptocurrency you have purchased. 

Finally, transfer your purchased cryptocurrency into a crypto wallet that you control. While exchanges have security protocols to ensure user funds’ safety, they hold the private keys to the funds you store with them. In most cases, that will mean that in the case of bankruptcy, the exchange can use your crypto to pay creditors, leaving you crypto-less.

Difference between centralized and decentralized exchanges

Now, let’s look at how centralized exchanges differ from decentralized exchanges (DEX). The table below clearly outlines the differences between CEXs and DEXs.

CriteriaCentralized Exchanges (CEX)Decentralized Exchanges(DEX)
Custody of AssetsTo start trading, you have to deposit your crypto onto the exchange, which will take custody of your asset.You retain full control of your assets and only have to connect your wallet to start trading on the decentralized exchange.
DecentralizationOperates according to a centralized model, where an organization controls the exchange.There is no central organization running operations. Instead, it is run by smart contracts.
LiquidityThe presence of institutional investors, and operating in a structured and (often) regulated environment attracts a large user base that brings high liquidity.A handful of leading DEXs have substantial liquidity. The remainder, very little. 
RegulationsSome CEXs are regulated. DEXs are currently not regulated. 
AccessibilityThis mostly depends on the policies set by the controlling organization. Not everyone can trade on a CEX because users typically have to complete an ID verification process. Available to all. No ID checks are needed.

The pros and cons of centralized exchanges

The advantages of trading crypto on centralized exchanges include the following:

  • The more secure environment due to regulations and some form of consumer protection policies.
  • Since a single central entity processes transactions, transactions are quick and cost-efficient.
  • Most exchanges nowadays also have reimbursement funds in case of hacks.

The disadvantages of trading crypto on decentralized exchanges are:

  • Lack of transparency concerning operations.
  • They hold custody of user funds, making them susceptible to hacks, potentially leading to loss of user funds.
  • They can be a target for censorship by regulators or hostile governments, and user funds can even be seized.
  • CEXs are prone to technical issues that may lead to significant downtime.
  • In the case of bankruptcy, exchanges may use user funds to repay creditors.

Risks of trading on a CEX

The biggest risk of trading on a CEX is the threat of losing your assets stored on the platform.

Some of history’s most significant exchange hacks happened to centralized exchanges such as Mt. Gox in 2014 and Bitfinex in 2016. In both cases, millions of dollars were t in customer funds were lost.

Over the last few years, however, crypto exchanges have taken better measures to protect users against hacks and refund the affected customers.

For instance, as some trading APIs can be potentially dangerous for users, crypto exchange OKX introduced an auto-expiry feature that automatically terminates API keys with trade and withdrawal permissions that have been inactive for 14 days. Regarding refunds, a blockchain network, Harmony, proposed minting up to 4.97 billion ONE tokens to compensate victims of the $100 million Horizon Bridge exploit in June 2022.

Having said that, the risk of losing your funds stored on a CEX remains because, in the case of bankruptcy, the operating entity may end up using your funds to repay creditors as part of their bankruptcy proceedings. 

Crypto investors should, therefore, always transfer the cryptocurrency they purchase on exchange off the platform and into a personal wallet to which only they hold the private keys. 

FAQs

Are centralized crypto exchanges safe?

Centralized crypto exchanges require users to undergo KYC, and many have AML policies mandated by financial regulators. As a result, trading on CEXs can be considered safer than on DEXs as nefarious trading is typically limited.

However, you should never store your digital assets on a centralized exchange, as you could lose your funds in the case of a hack or an exchange bankruptcy.

What is an example of a CEX?

Examples of centralized exchanges include Bitstamp, Binance, Coinbase, and Huobi.

Who is the biggest crypto exchange?

Binance is the world’s largest cryptocurrency exchange.

How does CEX work?

Centralized crypto exchanges (CEX) function like traditional stock exchanges, matching buy and sell orders from users. CEXes store users’ funds in their wallets, requiring users to trust the exchange’s security measures. CEXes often require KYC verification for regulatory compliance.

Is Binance a CEX?

Yes, Binance is a centralized crypto exchange (CEX). It offers many trading pairs and features, including spot trading, margin trading, futures trading, staking, and more. As a CEX, Binance operates as a centralized platform that facilitates trading between buyers and sellers and holds custody of users’ funds.

What is an example of DEX?

Unlike centralized exchanges, which rely on a central authority to facilitate trades and hold custody of users’ funds, decentralized exchanges like Uniswap use smart contracts to automate the trading process and allow users to trade directly with one another.