What is a cryptocurrency exchange?
What is a cryptocurrency exchange?
A cryptocurrency exchange is essentially exactly what it sounds like - a website or app where you can trade Bitcoin and other digital currencies between each other and for traditional currencies, such as sterling.
It effectively acts as an intermediary between buyers and sellers, allowing them to trade digital and fiat money for bitcoin, ether and Litecoin, amongst others. An exchange must therefore also serve as a cryptocurrency reserve.
To use most exchanges – including the London Block Exchange – you’ll be required to create and verify an account with supporting identification documents before you can start trading. You may not want to keep all of your cryptocurrency on these platforms for too long, so in this case it’s recommended that you also utilise a private wallet.
How cryptocurrency exchanges work
Cryptocurrency exchanges work in a similar way to traditional stock exchanges, to an extent:
You deposit an amount of money – usually over a predetermined minimum – in a fiat or digital currency supported by the exchange.
The software matches any buy orders (known as ‘bids’) to sell orders (known as ‘asks’).
- Let’s say you’re interested in Bitcoin. If you’re the buyer, you offer a maximum price-per-bitcoin and, if you’re a seller, you offer a minimum price-per-bitcoin. If the bid exceeds the ask, the exchange matches them together and the transaction goes through.
Market orders and limit orders
There are two kinds of orders that you can make on cryptocurrency exchanges.
The first is a market order, where you effectively authorise the exchange to make a transaction as quickly as possible at the prevailing market price.
The second is a limit order, where the exchange only completes the transaction if it meets your maximum or minimum price limits.
We’ll explain these and other order types in more detail in a future lesson.
Different types of exchange
Cryptocurrency exchanges can be divided into four categories:
1. Traditional trading platforms
These exchanges are about as close as you can get to a traditional stock exchange while still trading cryptocurrencies. These are platforms like LBX that facilitate trades by acting as the intermediary between parties.
2. Direct trading exchanges
Direct trading exchanges, also known as decentralized exchanges, are a little different, offering direct person-to-person trading for individuals without the need for a middleman. This is because they are operated and maintained exclusively by software.
3. Cryptocurrency brokers
These are websites where you can buy cryptocurrency directly from the brokers, who set their own exchange rates.
4. Cryptocurrency funds
More or less the crypto equivalent of an investment portfolio, these are essentially pools of professionally managed cryptocurrency assets which allow you to buy and hold cryptocurrency.
Choosing your cryptocurrency exchange
It’s hard to say that any one kind of cryptocurrency exchange is the ‘best’. Everyone has different requirements and some platforms will be better able to serve them than others.
Here are some factors that you should consider when making your decision:
Location: Many cryptocurrency exchanges have geographical limitations, so the first thing to do is check what’s actually available in your country.
Trading options: Which currencies are available on which exchanges? Most only offer a handful of different options.
Fees and charges: These vary between platforms, from 0.5% to 5% (ouch). They’re basically service charges for using the exchange.
Deposit and withdrawal limits: Some platforms can support larger volumes of capital than others – so find one that meets your ideal level of investment.
Reputation: Security, customer experience and accessibility are extremely important. It doesn’t matter if the fees are low and the withdrawal limits are high if it doesn’t work as intended.
Most importantly, don’t rely purely on word of mouth. What works for someone else might not work for you, so it’s worth doing some independent research to find your ideal crypto platform.