Crypto derivatives have become an inalienable part of the crypto market in recent years. Similarly to the stock market, crypto derivatives can be a great way to speculate on the cryptocurrency’s price or mitigate the losses by hedging.

Choosing the best crypto derivatives trading platform is as important as picking the crypto asset – it can make you rich or broke, depending on the changes in the volatile crypto market. The end-of-2022 FTX drama has shown that investing in profitable cryptocurrency on an unreliable exchange can result in the loss of your earnings. Finding the best exchange to trade cryptocurrency easy since plenty of centralized and decentralized exchanges already support this service. However, it’s not as simple as it looks at first glance. This post discusses the most trusted exchanges worldwide and highlights their vital features. Ultimately, it’s you who makes a decision.

Trading in the derivatives market is riskier and requires more advanced skills than spot trading. Leverage allows you to amplify your earnings tremendously. However, it can also result in much more significant losses than you would have if you just traded with the money at your disposal. Along with the skills and knowledge, finding the best derivatives exchange that will both be safe and give you the resources you need to open up your full trading potential is essential.

Best crypto derivatives exchanges in 2023 – choose a reliable friend for your cryptocurrency journey

2022 has been rough for crypto, and everyone expects that the 2023 market will still be impacted heavily by everything that happened in the past 12 months. However, some exchanges are doing better than others, especially decentralized ones. Here’s a brief review of the 10 great crypto derivative platforms you can choose from to start (or continue) your crypto journey.

List of TOP cryptocurrency derivatives exchanges

Dexilon

Dexilon is already one of the best cryptocurrency derivatives exchanges even though it has been in the crypto market for less than 2 years. Being a decentralized platform, Dexilon can offer the benefits of the CEXs, like low latency order execution. Dexilon users aren’t paying any gas costs, which makes their low fees even more compelling. With this best crypto derivatives exchange, users are in charge of their assets without worrying about their funds being misused. What is also appealing about Dexilon is their UX – simple and straightforward trading process as well as clear dashboards, which makes it accessible for beginners. Also, their Testnet allows crypto newbies to learn how to trade the best crypto derivatives tokens risk-free.

As for the roadmap, the Dexilon team is building a cutting-edge data terminal to allow users to make informed trading decisions.

Pros

• Robust security combined with anonymous trading
• Self-custody – user is in charge of their money
• Wide range of derivatives to choose from

Cons

• A relatively short list of coin pairs to trade

Binance

Binance has been on the market for a while and has a vast user base. Binance Futures went live in 2019 and, since then, changed the dynamics of the crypto derivatives industry. The bitcoin derivatives exchange offers USDT-margined perpetual futures, COIN-margined perpetual and traditional futures, leveraged tokens, and BTC options. Trading fees depend on your trading volumes within the past 30 days. The maker fee is 0.02% for the initial level, and the taker fee is 0.07%. However, there are some discounts when paid with BNB.

Pros

• High trading volume and liquidity
• Fiat currencies available

Cons

• Trading is possible by depositing USDT only

KuCoin

KuCoin is a significant cryptocurrency derivatives platform that operates in 200+ countries. In addition to the basic features, the platform offers futures, margin, and P2P trading. KuCoin also allows users to trade with the mobile app, available both for Android and iOS. The trading fees range from 0.01% to 0.1%, which is relatively low compared to the market average. However, the exchange also charges withdrawal fees that vary by the asset. The platform was hacked in 2020, and since then, it’s developed robust security features to ensure this doesn’t happen again.

Pros

• A variety of crypto assets
• Low fees

Cons

• Low trading volumes
• Many poor user reviews

BTCEX

With BTCEX, you get access to 70+ cryptocurrencies and a great variety of features. Users can access perpetual markets, futures, and options besides spot trading. The platform offers 10x leverage, which might need to be more impressive for seasoned traders. However, if you’re a beginner, you should remember that the bigger the power, the higher the risk of losing money. The signup process is straightforward and takes less than a minute, a big plus compared to popular centralized platforms.

Pros

• Mobile app for iOS and Android
• Beginner-friendly platform with guiding materials

Cons

• Deposits and withdrawals in crypto only
• No quick buying and selling of cryptocurrency

Bybit

Bybit is one of the best crypto derivatives exchanges that has been on the market since 2018. It’s a platform that focuses on crypto derivatives only. Some of their significant derivatives products include USD margin perpetual, Coin margined inverse perpetual, and Coin margined inverse futures. As for the fees, they’re pretty pocket-friendly – 0.075% are charged from the taker. The maker, however, will get a 0.025% reward for the trade. The exchange is claimed to process up to 100K transactions per second, making it convenient for individuals and institutions.

Pros

• Low minimum deposit requirements
• Demo account

Cons

• Not the best option for beginners
• A limited number of trading pairs

Deribit

Deribit has been specializing in crypto futures and options since 2016. It is a decentralized derivatives exchange available in more than 100 countries. One of the great things about Deribit is that both deposits and withdrawals are free of charge, depending on the amount. It’s not a decisive factor, but isn’t it heavenly when you don’t have to pay any fees and can just withdraw your rewards? The exchange supports Bitcoin derivatives and Ethereum derivatives only. Deribit also has mobile apps for both Android and iOS. A strong plus of the platform is its analytics tools for tracking indexes, volatility, etc., and dashboards to follow trading history and order books easily.

Pros

• No fees for deposits and withdrawals
• Great leverage for futures (100x for BTC and 50x for ETH)

Cons

• Lengthy KYC process
• Supports only BTC and ETH

Huobi Global

Huobi Global is famous for its excellent liquidity and solid trading crypto derivative volumes in the derivatives market. The exchange offers the following products: futures, coin-margined swaps, USDT-margined swaps, and options. They can either be utilized to maximize your yield or for hedging to ensure you secure some of your investments. The fees on the platform vary depending on the type of product you go for. Here are a couple of examples:

Futures: 0.02% maker and 0.04% taker
Coin margined swaps: 0.02% maker and 0.05% taker

Pros

• Over 230 assets to trade
• Good level of security

Cons

• Low withdrawal limits
• Low leverage for margin
• Long signup process

The ‘pros and cons sections are essential for you to quickly grasp why you should or should not choose a platform. Below we described the criteria for you to consider when researching the crypto platforms and selecting the best one for you.

OKX

OKX is a leading cryptocurrency exchange operating globally, serving users in more than 150 countries. The platform provides a wide range of features and services including leveraged trading, token sales, ability to trade crypto derivatives using futures contracts. OKX is available for both Android and iOS devices. The trading platform maintains a competitive fee structure, with trading fees ranging from 0.05% to 0.15% depending on the trading volume and asset type. The exchange employs industry-leading measures to safeguard user funds and personal information.

Pros

• Wide range of advanced trading features
• User-friendly mobile application
• Competitive fee structure with incentives for traders
• Strong security measures to protect user assets

Cons

• Limited availability of certain cryptocurrencies
• Customer support response time can be slow during peak periods

Bitget

Bitget is a prominent global derivatives exchange that operates in multiple countries, offering advanced trading options such as futures trading, leverage trading, and contract trading. The platform offers a user-friendly mobile application available for both Android and iOS devices. Bitget boasts a competitive fee structure. The platform charges low trading fees, with rates ranging from 0.03% to 0.1%. Moreover, this derivatives exchange provides fee discounts and incentives for active traders, enhancing their overall trading experience.

Pros

• User-friendly mobile application for on-the-go trading
• Fee discounts for active traders
• Strong security measures

Cons

• Limited selection of cryptocurrencies compared to some other exchanges.
• Some users have reported occasional delays in customer support response time.

Bitget provides users with a reliable platform to engage in cryptocurrency trading with confidence.

Gate.io

Gate.io is a cryptocurrency derivatives platform praised for its user-friendly interface and intuitive trading platform, making it accessible to both beginners and experienced traders. The derivatives exchange platform also provides a mobile application for convenient trading on the go, which has received positive feedback for its ease of use and functionality.
Gate.io implements a competitive fee structure, with trading fees ranging from 0.1% to 0.2%. While some users have expressed concerns about customer support, Gate.io prioritizes security and implements measures to protect user funds and personal information.

Pros

• A diverse selection of cryptocurrencies for trading.
• User-friendly interface and intuitive trading platform.
• Convenient mobile application for trading on the go.

Cons

• Occasional delays in customer support responses.

Mixed reviews regarding trading fees, which some users find high for certain trading pairs or volumes.

Which crypto exchange is best for derivatives – consider the 5 criteria below

There are various factors to consider while choosing the top crypto derivatives exchange, and some of them might be more of a priority for you, while others are insignificant. We decided on 5 main criteria to lean on while looking for a decent cryptocurrency derivatives exchange:

• Security and insurance. No doubt, this should be the first factor to consider. What is the point in choosing an exchange with 100x leverage that can’t secure your funds? You can earn thousands of dollars, but if there’s a risk that you can lose both the winnings and invested money, is it worth investing in such an exchange? People have become more interested in DEXs because of their self-custody and anonymous trading.
• Liquidity and trading volumes. A liquid market is associated with less risk and lower transaction costs. In a liquid market, a seller quickly finds a buyer without cutting the coin price to get a deal. Conversely, a buyer won’t need to pay more to ensure they get the asset.
• Fees. With cryptocurrency exchanges, trading fees are usually known as ‘taker’ and ‘maker’ ones. Taker fees are more expensive than the maker ones because the orders they are charged for are executed immediately, removing the order book’s liquidity. On the contrary, you pay a maker fee when you place a limit order and add liquidity to the order book. That’s why the maker fee is lower. As you gain more experience in crypto derivatives trading, you can develop some trading strategies to get rebates provided by the exchanges. For example, Dexilon gives a 0.1% rebate for makers and 0.05% for taker fees.
• Leverage. Many crypto enthusiasts find the derivatives market compelling because of leverage. What is the benefit of it? With leverage, you will be able to increase your trading volumes substantially and trade with more money than you actually have. For example, with Dexilon’s 10x leverage, you can open a position worth $10,000 while investing only $1,000.
• Technology and features. Even though it’s one of the last things users usually think about, you should not overlook the technology, since it will impact your trading experience. Poor technology doesn’t simply mean that you will sit and wait a little longer – it might also mean losing money.
• You want to choose a platform that offers a wide range of products so that you can try different ways of earning crypto without jumping between the platforms. However, as a beginner trader, you should beware of getting lost in the numerous features some platforms offer and stick to the core ones.

Some other essential criteria might be user experience, customer support, and community. Even though they don’t play a vital role in the trading experience, they are also quite important in some cases. If you’re entirely new to crypto and unsure if you can assess the exchanges based on the above factors, you can read some expert reviews for a deeper dive.

FAQ

• What are crypto derivatives?

Crypto derivatives are financial contracts that derive their value from underlying cryptocurrencies. They allow traders to speculate on the price movement of cryptocurrencies without owning the actual assets. Examples of crypto derivatives include futures contracts, options contracts, and perpetual swaps.

• How to trade crypto derivatives?

To trade crypto derivatives, you typically need to open an account with a cryptocurrency exchange that supports derivative trading. Once you have an account, you can select the desired derivative instrument, such as futures or options, and specify your trading parameters, including the contract size, duration, and leverage. It’s essential to understand the risks associated with trading crypto derivatives and have a solid understanding of the market before engaging in such trades.

• What is the best crypto exchange for derivatives?

The choice of the best crypto derivative exchange depends on several factors, including the trader’s specific requirements and preferences. Among the top cryptocurrency derivatives exchanges known for their robust derivatives offerings there are Dexilon, Binance, BitMEX, Bybit, and Deribit. These exchanges offer a variety of derivative products, competitive trading fees, liquidity, and user-friendly interfaces. It is advisable to conduct thorough research, compare features, and consider factors such as security, reputation, and available trading pairs before selecting an exchange for crypto derivatives trading.

Introduction

Dexilon is dedicated to delivering an exceptional trading experience by offering cutting-edge decentralized trade execution software, unparalleled security, and decentralized standards. We also aim to provide sustainable incentives for our stakeholders.

Our exchange is built on the foundation of two essential user groups: market-makers/LPs and traders who need liquidity.

For market-makers, we offer:

• Rebates, with every maker order, rewarded 1 basis point
• Zero gas cost, covered by the taker fee
• Lightning-fast execution (less than 100 ms), providing a predictable trading environment

For traders, we provide:

• Low fees, with taker fees starting at 5 basis points and as low as 1.5 basis points
• No hidden costs, such as gas fees, included in the taker fee
• A powerful trading terminal for informed decision-making
• A referral and Robinhood program
• Exciting trading competitions and much more

Our fundamental user proposition is situated around following pillars:

• Ultra fast execution. Having a custom built Dexilon Chain allows us to guarantee a very high TPS and blocktime, without the risk of congestion
• Limit order rebates – every limit order filled will be compensated 0.01% for providing liquidity
• Ulta low and transparent fees for Taker Order. Suits very well for retail and professional takers. We are 30% cheaper than major CEXs and up to 100% cheaper than major DEX competitors
• Being a decentralized protocol, and not taking direct revenue from trading fees, we are able to pass these cash flows to the community in a very substantial manner. 40% of Fees collected is aimed to be paid out for the Referral Program and Robinhood Pool
• Truly Deflationary Token model. Our system of Fees redistribution and settlement of payments in DXLN is designed to greatly push up a token price. Traders, referrals, ambassadors and hodlers, will be able to directly profit from this design

We are planning to promote 5 fundamental pillars outlined above by constructing an effective and transparent referral and ambassador system.

The Dexilon Referral Program

The Dexilon Referral Program is designed to reward users who bring new traders to the platform. Users can receive up to 40% of the commission collected from their referrals, paid back to them every 30-day epoch.

This is one of the most generous referral campaigns on the market, made possible by our well-designed fee structure.

Another great incentive program for small traders is the Robinhood Pool. 10% of all taker fees collected will be distributed to the smallest group of traders, based on trading volume. If you trade below 100k volume per month, you will receive extra cashback for your taker volume.

The referral program and the Robinhood pool work together seamlessly, as groups of traders can join the platform and receive a portion of each other’s costs, as well as cashbacks from the Robinhood pool, filled by fees from all user groups. Essentially, larger traders incentivize smaller traders to join and provide liquidity, while the smaller traders receive financial benefits from the Robinhood pool.

Ambassador program

Carefully designed system is developed to create a loyal community and motivate the community to provide various services to promote and expand Dexilon reach. Some of the examples ambassador work:

• Educational work – teaching communities how to trade at Dexilon and how not to pay ex
• Content creation
• 100+ referrals
• Bug bounties
• Regional coverage
• Meet ups

Detailed ambassador program via the link.

Gamification

Typical problem we are looking to solve with the gamification, is that average user struggle to effectively navigate inside the DEX, when it first lands and then consequently drops.

We have partnered with an external SF based company to develop a Gamification solution, which is aimed to increase user stickiness and LTV.

Gamification at Dexilon is a set of visual quizzes and games inside the trading application, aimed to show, teach and support newcomers on how to efficiently use the platform and incur less mistakes and increase their experience.

Data terminal

We introduce a brand new concept of Data Terminal, which cannot be found anywhere else.

Data Terminal is an aggregated data sets which form trading indications from the biggest CeFi and DeFi venues. Users will be able to understand crypto market patterns by accessing real-time data on OrderBook Liquidity across all major exchanges, Sentiment Analysis on current affairs, correlations between stock indexes and various trading pairs, Analytics on relationship of Gas Prices vs Price of the Underlying Asset and much more.

Why is this important? Majority of retail customers, who trade derivatives, predominantly execute technical intra day trading strategies. They often lack sophisticated data about the very fragmented crypto market. Their strategies rely on intra day events, which they largely miss or have to pay substantial costs for the data and then execute the trade elsewhere. We are breaking this. At Dexilon users will have the most up to date and relevant information on liquidity, spreads, macro events in one place, while being able to directly execute trade at Dexilon Exchange. This is a tool which provides traders with the wide range of abilities like searching for walls of resistance or support through a depth chart which aggregates data throughout most popular exchanges. The terminal may provide many hints like how BTC price might act if there are 3 times more volume in asks than bids; provide an info real time about all listings/delistings so traders might profit from such events and much more.

The terminal opens a wide range of communication opportunities for Dexilon, as news related to exchanges are usually boring. With the terminal, Dexilon will have a much bigger variety of tools aimed to engage a community like rewards for proposing new graphs, finding new correlations which might impact crypto price and so on.

Target Promotional Channels:

• Investors and partners community channels – organic
• Influence marketing – paid
• AMA sessions, Twitter Spaces
• SEO – organic

Current Status:

• SEO is fully operational. SEO results via the report
• Ambassador program is ready for deployment
• Referral program is developed and ready for deployment
• Ready to invest funds into the influence marketing in the preparation of the mainnet

Сurrent Immediate action plan for Jan-Feb 2023:

• Major informational/content release, i.e. Product documentation, Incentives and Token documents, Public trading API, Gitbook
• Influence marketing campaigns with trading bloggers and youtube channels
• Hiring additional 1 or 2 community managers (Currently 1 full time) to expand Discord and Reddit
• Launch of Gamification product at the beginning of Feb 2023

Dear Community,
We are happy to announce the release of our interim Testnet upgrade. It includes our custom built blockchain, blockchain transaction explorer, EVM/Dexilon bridge, cross-margin mode trading, and 13 trading pairs. Within the next few weeks, we will also present the long-awaited Liquidation Pool and the first version of the Trading Terminal (market data analytics tool). In summary, about 90% of tech required for the Mainnet V1 release is completed, and we have completed 70% of the security audit, conducted by Hacken. We would very much appreciate a testing of the product and a feedback on our social media channels.

I would like to provide a quick note from the Dexilon Team regarding FTX and the surrounding situation. First and foremost, I hope your business has not been affected in anyway. Regarding FTX, events observed during the last week will tremendously transform the industry going forward. There will only be two paths going forward, DeFi or bank-like regulated CEXs, anything in the middle will likely fail. Recently spinned twitter tag – “If you don’t own keys, you don’t own crypto,” meaning only one thing – the sector will accelerate its transformation for true decentralization.

We believe Dexilon will fit perfectly into the new paradigm of the crypto industry – uncompromised transparency, no centralized custody, code-driven risk management, and DAO governance. Still, this new paradigm requires substantial effort to achieve robust user experience standards, cost of trading, and latency. Since Day 1 of building Dexilon – code driven transparency, user experience, costs and latency were at the heart of the company strategy, and we remain committed to achieving our goals.

Over the past few years, we have seen an enormous shift to the institutionalization of crypto, but it eventually did not end well with all of them. As many of you have heard our narrative – “Heaven for Market Makers”, so our short-term business plan is to regain confidence of the market by fully eliminating a counterparty risk. Wish us a bit of luck and we will certainly prove – Dexilon is your best trading solution, especially in such market conditions. Thank you for your trust.

Kind Regards,
Dexilon Team

Since the advent of Bitcoin, the perception of money has changed. The first virtual coin has launched an enormous transformation of the way we can pay for services buy goods and opened for us lots of opportunities to gain money.

Distributed ledger technology, like blockchain, is one of the innovations that have opened floodgates to multiple ways to invest. Such technology allows you to tokenize any property, like art, company shares, buildings, funds, services, equity, etc. So what is tokenization, and what are tokenized assets? Let’s discover.

What is Tokenization: Definitions

Although tokenization may sound complex, it is actually quite simple. Tokenization of assets is the process of creating digital tokens representing digital or physical assets on a distributed ledger or blockchain. 

Simply put, tokenized assets is the process of generating an informatic code that presents the key characteristics of an asset, exposing some functions that allow the user to interact with the digital representation of that asset.

The technology guarantees that once you own tokens of an asset, no one else can be the owner of the chosen property. 

What are Tokenized Assets? 

The digital token can be defined as a piece of software with a unique reference to an asset, properties, and/or legal rights. Despite the fact that similar pieces of software can be created, the fact that a token runs on Blockchain distinguishes it from other digitalization methods. Due to the blockchain technology allowing to make a digital token, different companies can collaborate. Thus, all parties can update and check information seamlessly. 

Types

There are two types of tokenized assets: fungible and non-fungible. 

• Fungible tokenized assets are interchangeable, meaning they can be exchanged one with another of the same kind as an essential asset feature. 

Another characteristic of fungible tokens is divisible, so it’s possible to buy a decimal place of the asset. For example, the famous cryptocurrency Ethereum (ETH) can be divided into 18 decimal places. Therefore, it makes it possible to buy not the whole coin but its part (up to 0.000000000000000001 ETH).

• Non-fungible tokenized assets (widely known as NFTs), contrary to the fungible, can’t be interchanged or replaced with assets of the same type because each NFT is unique. Also, they are unique and non-divisible.  

Advantages of the tokenization

• Low risk from data breaches

The tokenization process protects businesses from the adverse financial effects of a data breach. It is unlikely that any valuable personal data will be stolen, even if a breach occurs. Even though tokenization can’t protect your company from a data breach, it can reduce the financial impact on your company in the event of one.

• Reduced Cost

By automating, keeping clear records, and using the public internet, it’s possible to reduce costs significantly, with blockchain lowering bond issuance costs by up to 90% and fundraising costs by up to 40% compared with the traditional private placement.

• Improved Liquidity

Private equity and real estate are believed to be worth $4 trillion. Still, tokenization provides a way to trade previously illiquid or non-fractionable assets (like private placements and real estate) to a global investor pool.

• Customers trust

According to statistics, many people stop trusting the company if their data is hacked. Therefore, tokenization represents a perfect security tool that fosters customer trust, as it protects from server attacks.

• Greenlight to your business

Tokenization facilitates the process of meeting and maintaining regulatory compliance. The key point is that leading payment technology companies offer tokenization as part of their payment processing services. Thus, you can focus on growing your business while your payment partner reduces the amount of red tape to help you remain compliant.

• Payment innovations progress

Tokenization is increasingly becoming the predominant payment method for in-store payments from customers’ mobile devices. Mobile wallets such as Apple Pay and Google Pay store consumers’ credit card information as a token. Smartphones themselves offer additional security through biometric authentication and other advanced security features.

By tokenizing payments, eCommerce becomes safer, and user experiences improve-whether online, on mobile, or in-app.

What are Synthetic Assets?

The term – Synthetics is a set of financial instruments that are made to ape other instruments while varying key characteristics, including duration & cash flow. Synthetic Assets traditionally combine derivative products — futures & swaps; or options that simulate fundamental assets like stocks, currencies, commodities, indexes, bonds, or interest rates. 

How Do They Work?

As we wrote earlier, synths simulate the value of the fundamental assets. Also, they track the fundamental assets’ value and make it feasible to access these assets to individuals deprived of having them. The variety of Synthetics is presently limited to 2 types:

• Normal Synths (Positively correlated with fundamental assets)
• Inverse Synths (Negatively correlated with fundamental assets)

What Challenges Do They Face?

With all their novel potential & ideals, Synthetic Assets in the modern market also have their share of roadblocks & challenges to mass adoption. Now, let us discuss some of these:

• Limited Scope: Presently, investors can trade in only a limited number of assets such as Synthetix or UMA. 
• Lack of Attention: Honestly, already existing synthetics do not catch our attention. Even the US stocks have hardly received prominence since the investors have various high-volatile choices in cryptocurrencies. 
• Lack of Retail Market: The synthetic market requires multiple transactions to work out for retail users. Often, the investors who enter synthetic markets are from the mining community, who enjoy their incentives and not the customers that the product team envisioned.
• Difficult to Scale Participation: Routinely, large & potential investors enjoy direct access to the synthetic market, whereas smaller investors are deprived of this access.

Are There Any Possible Solutions?

After understanding the challenges of Synthetic Assets, now it is time for us to go through the solutions for them. From making the access of synthetic assets more decorative and offering extra incentives for development, we require them all. A more liquid market for synthetic assets that is gamified to boost participation and open to all the investors with less or no industry knowledge — is the catalyst that the sector needs.

In other words, it is important for the markets to be able to trade in a more extensive number of Synthetic assets and attract more investors.

Summing Up

Synths simulate the value of the basic assets (like stocks & bonds) and track their value to make them feasible & accessible to fresh investors as well. Although in this process, we are facing various challenges such as limited entry, complex nature, and difficult to scale participation. However, if a liquid market is created for this asset class, it would help expand the reach and scope. 

If you’ve been for a while into the crypto field, sure thing you know what CEXs (centralized exchanges) are. Historically, centralized exchanges date back to the inception of digital currencies. Due to their ease of use, user-friendly interface, and the convenience of trading across multiple blockchains, centralized exchanges remain popular today. These exchanges make it easy to trade tokens because they offer easy fiat to crypto conversions, as well as high volumes of trading.

Nonetheless, CEXs centralized nature allows exchanges to keep full control of their users’ assets. As well, they are prone to cyber-attacks and demand KYC.

DEXs: Challenges for DEXs to Overcome to Become Powerful Competitors to CEXes

What is dex (decentralized exchange),it is a platform that provides the ability to exchange one cryptocurrency for another, provide liquidity for other exchanges, as well as engage in staking and farming. 

Decentralized exchanges are those with no central third party. It means that no one controls the operations of the exchange.

On centralized exchanges, a company manages the order books, user accounts, and everything else involved. Contrary, on decentralized exchanges, these details are handled by smart contracts, which execute functions automatically.

Let’s see how DEXs work.

AMMdroids: What are the functions of DEXs?

What role does the internal exchange play? What is the process for sending money from your wallet in the form of one token, and for receiving another?

AMMs, or automated market makers, represent decentralized exchanges (DEX) that use mathematical formulas to price assets. In contrast, centralized exchanges (CEX) use an order book.

In some way, an AMM is similar to an order book exchange as there are trading pairs – for example, ETH/USDT. The difference in-between centralized vs decentralized exchanges  is that on DEXs the trade can be made without a counterparty (another trader) on the other side. As an alternative to that, you deal with a smart contract that “creates” the market.

We can compare an automated market maker to an android that’s always willing to offer a price between two assets. For example, you can connect your Metamask browser wallet to the most popular DEX – Uniswap, which runs on the Ethereum blockchain. The platform will immediately route all exchange operations through your wallet. One currency will be debited, the other credited. No additional steps are required!

What is the main benefit of AMMs?

AMMs not only allow you to trade trustlessly, but they also give you an opportunity to become the house and provide liquidity to the liquidity pools. In this way, you can become a representative of a market maker on an exchange and provide liquidity in return for fees.

Due to how easy and simple they are to use, AMMs have really carved out their niche in the DeFi space. 

What are the weak points of DEXs?

Even though DEXs are beneficial, they have a few drawbacks. Thus, they are limited by the transaction capability of their networks. When volume rises, so do the fees for executing trades. This has become a major problem for DEXs, many of which are hosted on Ethereum and use an automated market maker (AMM) to manage their trading.

What solutions can DEXs bring?

DEXs were developed as a solution to CEXs’ problems and to give you and other users a true sense of ownership of their assets. DEXs eliminate the intermediary (a centralized authority), replacing it with an automated protocol. Here you have complete control of their assets, unprecedented levels of security, and neither registration nor KYC procedure is required.

For DEXs to compete with their centralized counterparts, they need to solve the following problems:

• High fees
• Long wait times
• Derivatives trading
• Difficulty dealing with high trade volumes

At present, most DEXs use an AMM and run on the Ethereum network. This model doesn’t scale well, as evidenced by the insanely high gas fees that users wind up having to pay. But there is a solution.

It’s possible for a DEX to employ a limit order book rather than an AMM. DEXs can also run on a layer-2 like Polygon. This model allows for more trading volume with lower fees and faster transaction times.  

While an AMM can work just fine for trading coins with small market caps and lower overall trading volumes, the system suffers when trying to process large volumes or derivatives trades.

It’s clear that the solution involves:

• Building a DEX on a layer-2
• A classic limit order book model
• Shorter transaction times and lower fees.

Why do the Solutions DEXs Can Bring are not Valuable?

The majority of new users won’t be able to trade on DEXs since it requires complex knowledge. They also don’t support fiat currency transactions, making liquidity challenging. Consequently, users who choose a DEX lose out on the convenience of a CEX. Choosing a CEX, however, they lose control of their assets. 

Additionally, many users lose money while using DEXs on public networks: their assets can be stolen when they sign transactions. Thus, people need to be more careful.

One more stumbling rock is wallets safety. There is a demand for more secure solutions and more protected wallets than Metamask, but this comes with a cost. Secure solutions mean that people do not have access to secret keys, so they rely heavily on the wallet counterparty.

Last but not least are the GAS fees.

What is Gas and Why Does it Make DEX’s so Expensive?

Gas is the fuel for transactions happening on Ethereum. Each transaction, including actions executed by smart contracts (such as trades carried out on a DEX), requires a small amount of Ether (ETH). Gas fees are measured in gwei, the smallest units of ETH.

For a DEX, trades can take longer and require higher fees when the network gets congested. In addition, the longer it takes for an AMM to update its prices, the wider the spread between buyers and sellers will be, increasing user costs even further.

Here’s an example of how high gas fees can be problematic: In July 2021, the ShapeShift platform airdropped 340 million of its FOX tokens to over 900,000 former ShapeShift users and about 120,000 users of different DeFi protocols.   

Anyone who used ShapeShift, along with some users of various DeFi platforms like Yearn, Uniswap, Gitcoin and others, all received FOX tokens.

Sounds great, right?

Only one problem arose here – gas fees.

Why are Ethereum Gas Fees High? Airdrops and Useless Awards

To claim the airdrop, users had to pay a gas fee to receive the tokens. If this was all a user wanted to do, maybe it wouldn’t be so bad. But what if someone wanted to trade FOX for a different token and then move it to another wallet?

Well, that would incur two additional fees: one for the token swap on the ShapeShift platform and another for sending a transaction off of the DEX.

In mid-July 2021 when the airdrop was announced, the average gas fee price was about 45 gwei. The price for 1 ETH was about $1,880. At the time, that means that one gwei equaled less than one one-thousandth of a penny.

So, the cost for transactions should have been cheap, or so one might think.

 But in practice, a DEX transaction isn’t so simple. And the gas price as measured in gwei only covers a single function in one smart contract. These transactions can involve many functions occurring in multiple contracts.   

 “How bad could it get?”, you might be thinking. The answer is: pretty bad.

 To claim the FOX airdrop in 2021 cost users close to 20 USD in ETH. Then, if they wanted to swap for another token on the platform, say, USDC, it would have cost another 20 USD. And finally, to transfer an ERC-20 token such as USDC to another wallet would cost yet another 20 USD (approximately).

 After all that, if a user had been airdropped 400 USD worth of FOX, they would have lost about 15% of those tokens due to gas fees. 

All in all

Today, users can borrow money to leverage their positions, lend money to earn interest passively, or provide liquidity to collect fees through decentralized exchanges.

Since these platforms are built on self-executing smart contracts, they could have a greater number of uses in the future. As an example of how innovation in the decentralized finance sector can lead to products and services that were not previously possible, flash loans refer to loans taken and repaid in a single transaction.

What is DeFi?

DeFi refers to decentralized finances that aim to address the drawbacks of using centralized platforms in providing financial services. The concept of decentralized finance (DeFi) is based on distributed ledger technology similar to that used by cryptocurrencies. Through emerging technology, DeFi eliminates intermediaries so people, merchants, and businesses can perform any financial transactions directly. The concept is implemented through peer-to-peer financial networks that rely on security protocols, hardware advancement, connectivity, and software.

As a matter of fact, DeFi projects (decentralized exchanges) aim to match their centralized counterparts. DEXs, for example, are struggling the most as they are very dependent on speed and throughput. So how can it be possible? 

DeFi solutions

To conduct transactions, DEXs use smart contracts. They are self-executing contracts in which the terms of the agreement between buyer and seller are incorporated directly into code. 

What is special about these contracts is that they support trades on DEXs, eliminating the need for intermediaries to update records, ensure compliance, and manage counterparty risk. Additionally, DeFi applications implement cryptographic mechanisms to authenticate information before recording it, making operations transparent. In this way, they accelerate transactions, and eliminate the risk of human error. 

What is more, DeFi can easily interact with other decentralized apps (dApps). They offer entirely autonomous and decentralized banking services such as borrowing, lending, trading, and derivatives. When combined, they represent a new paradigm for finance. Despite this, DeFi is facing several challenges.

What Problems is DeFi Trying to Solve? Major Challenges

Since any operation must be publicly disclosed and recorded on the blockchain network, this establishes a restriction on the total number of transactions carried out at a given moment. The technology ensures the network’s protection, but it needs lots of computation power which costs money. Thus, DeFis are prone to contract limitations, high fees, and DDoS attacks. There is also one key issue of DeFi: scalability.

What is Scalability?

The scalability of a system refers to how big it can grow without encountering performance degradation. In blockchain architectures, this is often referred to as throughput. DeFi’s scalability is essential since the network undergoes a dramatic increase in transactions. Consequently, in case the network won’t be able to manage all transactions, it couldn’t expand. 

To face such a problem, blockchains developed Layer 2. 

Layer 2 Solution

Multiple solutions to the blockchain scalability problem are referred to as Layer 2, or “off-chain” scaling options. Layer 2 is an initial part of any blockchain. The Bitcoin Lightning Network and Ethereum Plasma are two important examples of Layer 2 solutions. Despite their differences in functioning principles and features, both technologies try to enhance the throughput of blockchain networks and reduce gas fees.

How does it work?

Usually, Layer 2 is added as an additional layer to the main chain (Layer 1). Thus, there is no need to implement any modifications to the fundamental structure. Consequently, such a solution provides no impact on the Layer 1 network security, and the number of performed transactions (high throughput) grows. 

Let’s figure out what the types of Ethereum’s Layer 2 solutions are.

Types of Ethereum Scaling Solutions

To address concerns like scalability, high gas fees, and network congestion, Ethereum is getting ready to release its landmark Ethereum 2.0 upgrade, which would completely redesign the network.

Ethereum 2.0 is a major upgrade to the network, consisting of several stages that will result in the switch from proof-of-work to proof-of-stake consensus, making the network more scalable, safe, and long-term.

There are 3 types of Ethereum scaling solutions:

• Plasma – utilizes a secondary blockchain helping with the main chain verification. Despite being quite similar to smart contracts of Polkadot, Plasma contracts are organized in a hierarchy to exclude transactions from the main chain, freeing up time and increasing scalability.
• Optimistic Rollups – function on Ethereum’s base layer to allow for the execution of a large number of smart contracts without the network overload. They maintain the same level of security as the Ethereum main chain. To achieve faster transaction speeds, data aggregators calculate Merkle root. They do, however, have a lower throughput than Plasma and ZK Rollups.
• ZK (zero-knowledge) Rollups – data packs that are securitized on the main chain by a smart contract before being sent off-chain for processing and computation. With the capacity to process 2,000 TPS, they can generate a block in under a minute. The term “zero-knowledge” refers to the fact that all verifiers can be aware that they have the same information without it being revealed.

Since data is stored off-chain, the ZK-rollups Layer 2 scaling approach outperforms Layer 1. Layer 2 relevant smart contract data is required less frequently than data from Layer 1 blockchains. This saves a lot of computing power, and transaction validation takes up less space on the blockchain. As a result, gas prices fall, making transactions faster and less expensive.

Ethereum 2.0: Will it Solve the Problem of Scalability?

These days, most DeFi operations are processed on the Ethereum blockchain. To settle on the blockchain, each of these transactions costs some amount of ETH, Ethereum’s native cryptocurrency. Due to the growing popularity of DeFi in 2020, transaction prices have skyrocketed. As of now, the cost of the basic transaction starts from $20, and complex operations with smart contracts charge up to $200, depending on how the blockchain is currently being used.

Despite all the changes Ethereum tries to implement, for now, Ethereum Proof-of-Work throughput remains low – only 15 transactions per second. In order to solve this problem, developers came up with the idea of optimization of the processes. Thus, they are working on the elaboration of Ethereum 2.0 – a huge lap from an energy-consuming Proof-of-Work (PoW) consensus to the leaner, greener Proof-of-Stake (PoS) mechanism. However, such a transformation may cause a problem for miners who enjoy the Proof of Work mining process.

To follow its Layer-2 centered roadmap, ETH focuses on the rise of sidechains and rollups to reduce gas fees and low throughput on Layer 1. Despite this strategy, the percentage of DeFi domination, which was projected to be about 100% at the beginning of last year, has since reduced to an estimated 70% of the market.

As a consequence, the value of their native tokens has also risen. While Ethereum’s network asset, Ether (ETH), went up in price, each of the abovementioned tokens outperformed ETH in the previous year. Ethereum 2.0 update aims to change the proof-of-work (PoW) consensus to a more energy-friendly proof-of-stake (PoS) consensus. Why is it so? 

• PoW requires a lot of computation power and thus can handle just few transactions per second. For these reasons, each operation costs a lot of money. At the same time, it is claimed to be highly secure. 
• PoS, in its turn, can process far more transactions per second than PoW. However, the level of security is quite low and PoS is not suitable for miners.

So now we see how Ethereum, with its expensive gas fees and low throughput, is evolving due to Layer 2 solutions. 

Ethereum 2.0 Drawbacks

Ethereum 2.0 offers a perfect solution and a nice alternative to CEXs. However, it may have some drawbacks. 

Bridges

As Layer 2 is an additional Layer to the Mainnet, it joins Layer 1 through the bridge. You may wonder how secure are Layer 1 to Layer 2 bridges. Despite all the strong sides, they are prone to STP, ARP, LLDP, and other attacks. 

High fees

Compared to the new public chains like Polkadot, Avalanche, Solana, etc., which are also making good headway, Ethereum charges high fees.
Thus, if Uniswap transaction costs $0.0001, and the one on Binance is worth $0,20, the fees on Ethereum is $7, and on its Optimistic rollup, the fees go above $0,68.Is DeFi the Future of Finance? 

The industry’s problem with Layer 2 is that many of them are different, and it is not clear how they work and how safe they are. In addition, there are still lots of rocks on the road, like the vulnerability of the bridges between Layer 1 and Layer 2. 

However, Layer 2 has no alternative. On the other hand, the Proof of Stake to which Ethereum wants to switch won’t be enough to cater to the current DeFi inquiry, as one public blockchain cannot cope with the demand. Thus, Layer 2 Solutions will continue to develop, searching for new solutions.

Is DeFi the Future of Finance? 

The industry’s problem with Layer 2 is that many of them are different, and it is not clear how they work and how safe they are. In addition, there are still lots of rocks on the road, like the vulnerability of the bridges between Layer 1 and Layer 2. 

However, Layer 2 has no alternative. On the other hand, the Proof of Stake to which Ethereum wants to switch won’t be enough to cater to the current DeFi inquiry, as one public blockchain cannot cope with the demand. Thus, Layer 2 Solutions will continue to develop, searching for new solutions.