- A cryptocurrency exchange fills the role of the intermediary between a seller and a buyer.
- These exchanges work like brokerages and you can deposit funds through bank transfer, wire, and other means of deposit.
- If a trader wants to trade between cryptocurrencies, they will pay a conversion fee.
- Purchases and sales are based on an ordering system where the buyer places a limit order that is then sold through a corresponding cryptocurrency when it is available from the seller.
A cryptocurrency exchange is essentially a digital marketplace where you or a trader can buy, sell or trade cryptocurrencies through the usage of FIAT currencies or altcoins.
It is an online platform that acts as an intermediary between buyers and sellers of the cryptocurrency. It is also known as a digital currency exchange or DCE.
A FIAT currency or FIAT money is any money that is accepted by a government with the intent of paying debt or taxes, and it is not a currency that is pegged or backed directly by gold as well as any other valuables.
These exchanges can accept credit card payments, wire transfers, or other forms of payments in exchange for digital currencies or cryptocurrencies. This can also be used as a market maker that takes the bid-ask spreads as a transaction commission for its service, a matching platform, or simply charges fees.
These platforms essentially act as the connection between buyers and sellers. Similar to what a traditional stock exchange works, traders can buy and sell bitcoin by putting either a market order or a limit order.
When the market order is selected, the trader showcases that he wants to trade the coins for the available price in the online marketplace.
When a limit order is set, this seller directs the exchange to trade coins for a price below the current ask price or above the current id price, this is highly dependent on if they are actually buying or selling.
To make this transaction possible, a user needs to first create an account at one of the selected exchanges. This process goes through a wide selection of verification processes in order to authenticate the identity.
Once the authentication process itself is completed on a successful level, an account is opened for the user who then has to transfer their funds into this account before they can buy coins.
Different exchanges tend to have different payment methods that can be used for depositing funds, this includes bank wires, direct bank transfers, credit cards, debit cards, bank drafts, money order, and in some cases even specific cards.
A trader that will eventually want to withdraw money from the account could do so using the options provided by the exchange itself, which typically includes a bank transfer, check mailing, cash delivery, bank wire transfer, credit card transfer, and as of recently even PayPal transfers.
Let’s talk about how a Cryptocurrency Exchange works…
How a Cryptocurrency Exchange Works
Cryptocurrency allows for the exchange of one cryptocurrency for another cryptocurrency, the buying and selling of coins, and the exchange of FIAT money into crypto.
These crypto exchanges set the rate of the currencies, both in terms of coins as well as tokens. The cryptocurrency rate depends on the actions of the sellers and the buyers, and there are other factors that can affect the price.
Many of these crypto exchanges have different options as well as functions, and some of them are made from traders while others are made for cryptocurrency to fiat exchanges.
Crypto exchanges which are designed for regular traders allow you to purchase crypto and sell it with lower commission fees than on cryptocurrency to fiat exchanges. Keep in mind that these trading platforms also charge fees for withdrawing money from the account.
A crypto exchange works in a similar way as a regular stock exchange in this way, where the difference is that on a stock exchange, the traders buy and sell assets, shares or derivatives, and profit from their exchange rates.
On crypto exchanges, on the other hand, the traders use cryptocurrency pairs in order to profit from the volatile currency rates.
These crypto exchanges might have different prices due to the fact that they are not connected, and their prices can vary depending on the buy and sell activity of each of the exchanges.
This is due to the fact that every exchange, for example, calculates the price of Ether based on its own volume of trades, as well as the supply and demand aspects of the users. This in turn means that the bigger the exchange, the more relevant price you get.
There is no stable or fair price when it comes to cryptocurrency coins and this is always determined by the market at each particular moment.
When it comes to profiting out of the differences in prices from the various exchanges, you could potentially make a small profit if the price difference covers the exchange fees.
When you compare the price of Bitcoin for example from five different exchanges throughout a normal day, you will see one or two % differences between some of them. This difference can reach up to 5% on active trading days when the volumes are much higher, so keep that in mind.
If you want to sell your Bitcoin on an exchange for a higher price, and buy it from another for a cheaper price, you need to ensure that the transaction fees, as well as the fees that are implemented by the different exchanges, do not surpass the value you would end up getting.