Centralized Exchanges (CEX)

How Centralized Exchanges Work (CEX)

How traditional crypto exchanges work

A crypto exchange is a trading platform that enables users to trade one cryptocurrency for other cryptos, cash, or other digital assets. There are two main types of cryptocurrency exchanges that exist today:
In many aspects, the traditional crypto exchanges work similarly to regular stock exchanges, except that they are open 24/7.

Centralized crypto exchanges prevent anonymity with KYC

There are a few key differences between the two kinds of cryptocurrency exchanges. Firstly, the centralized crypto exchange requires users to complete the registration process before trading. This KYC (Know Your Customer) process is largely a legal requirement that combats money laundering.
The KYC process may require users to verify an email address, ID or passport photo, home address proof, phone verification, etc.
While most traditional crypto exchanges allow new users to create an account without an ID verification, they might limit features for that account. However, once the user’s identity is verified, many exchanges will allow users to link a bank account or a credit or debit card for fiat payments and withdrawals. These features usually come with special fees, just like bank accounts.

How centralized crypto exchanges generate revenue

Centralized crypto exchanges make money from offering crypto funding solutions for new crypto and blockchain projects, such as IEOs, STOs, and ICOs, and from their specific fees.
Traditional crypto exchanges charge a fee for:
  • Trading (similar to the bank’s commission for bank accounts)
  • Listing (Centralized crypto exchanges charge a fee for listing a new cryptocurrency)
  • Deposit and withdrawal (these can be different for each exchange and for each particular cryptocurrency)
They also make use of order-book trading, where crypto traders can place buy or sell orders.

Market and limit orders on centralized exchanges

On a centralized exchange, such as Binance, the trader first places a buy or sell order. Then, the exchange sorts all orders by price, continually updating the list of orders as they take place.
There are two types main types of orders on centralized exchanges:
  • Market orders: The exchange automatically buys/sells your funds for the best available price on the market.
  • Limit orders: The traders place a buy/sell order at the desired price, and the exchange automatically executes it when the offer meets the price of the order.
The amount of open buy and sell limit orders represent the market depth.

How do market and limit orders work?

Exchanges always have a lot of sell orders listed. For instance, if you want to buy bitcoin, you can either place a market order, which will automatically get the funds at the best available price, or place a limit order.
When placing a limit order, you can indicate the desired place at which the order execution must take place. Limit orders support partial fulfillment, put on hold until a new order appears on the market that can fulfill your buy/sell order.
Let’s assume this is a sell order list for bitcoin (BTC):
  • 0.5 BTC at $60,000 per 1 BTC
  • 0.7 BTC at $61,000 per 1 BTC
  • 0.1 BTC at $62,000 per 1 BTC
If you want to buy 0.6 BTC using a market order, then the exchange will automatically match your order with the first selling order for 0.5 BTC and would purchase the remaining 0.1 BTC by partially fulfilling the second order. That would cost you a total of $36,100 (0.5*$60,000 + 0.1*61,000).
This is only an example to help you understand how orders work on centralized crypto exchanges. Usually, an exchange has many orders for the listed cryptocurrencies.