Decentralized Exchanges Fail to Gain Momentum, Despite Dire Market Need

2018 was a year of records for the cryptocurrency industry. In 2018 alone, many cryptocurrencies achieved their highest ever valuations — and many projects, including Bitcoin and Ethereum, began ramping up efforts to achieve the scaling necessary for mainstream adoption. However, 2018 was also a year of strife for many. Most cryptocurrencies experienced their worst losses on record, while the number of shady projects, failed ICOs, and exit scams increasing dramatically. Perhaps the most startling record, however, is the extraordinary amount of money that was stolen by hackers in 2018, with this value easily eclipsing previous years. In 2018 alone, more than $860 million was stolen from cryptocurrency exchanges, which represents more than 60 percent of all cryptocurrency ever stolen since the introduction of digital currency exchanges in 2011. 2018 was also the year of the largest single hack in the history of cryptocurrencies, with around $500 million worth of NEM tokens stolen from Coincheck, a Japanese cryptocurrency exchange that was recently purchased by Monex Group. In terms of the absolute number of cryptocurrency exchange hacks, 2018 was among the worst years on record with six major hacks, exceeded only by the nine hacks witnessed in 2014 — a year which also suffered the $340 million Mt. Gox hack.

The Case for Decentralized Exchanges

[bctt tweet=”If there is one common theme with the majority of crypto thefts in the last several years, it’s centralization.” username=”beincrypto”] In almost all cases involving more than $1 million stolen, hackers gained access to a hot wallet containing funds contributed by multiple owners. The ability to transfer value in a decentralized manner has long been considered to be one of the central tenets of cryptocurrencies. This need has since been filled by a myriad of decentralized exchanges (DEXs) which allow cryptocurrency holders to transact without requiring the involvement of centralized intermediaries. In addition, decentralized exchanges are less subject to other issues that commonly affect centralized exchanges — including market manipulation, high withdrawal fees, and regulatory limitations. The potential benefits of decentralized exchanges are multiple, ranging from increased privacy, resistance to censorship, and — perhaps most importantly — increased security. Because decentralized exchanges do not store user funds in a centralized wallet, they are not vulnerable to the same types of hacks that many centralized exchanges have fallen victim to. According to inDEX — a comprehensive list of decentralized exchange projects — there are over 250 projects capable of, or will soon be capable of, allowing the exchange of digital assets without a centralized authority. Despite more than $1.3 billion being lost due to hacks at decentralized exchanges, decentralized exchange usage remains drastically lower than that of centralized exchanges, with even the largest decentralized exchanges — such as Forkdelta and iDEX — paling in comparison to small centralized exchanges.  Though there is a clear interest developing around alternatives to centralized exchanges, this has not been reflected on DEX trade volume. Quite the opposite, in fact. Throughout the 2018 bear market, decentralized exchanges saw their average trade volume fall at a faster rate than centralized exchanges, falling more than 88 percent since May 2018.

Uptake Problems

Although truly decentralized exchanges do not hold custody over their user assets and do not require traders to conform with any regulatory steps, such as KYC or AML, the current landscape is dominated by what can be considered pseudo-decentralized exchanges. Most decentralized exchanges do not offer a completely decentralized experience, with DEXs instead falling on a decentralization spectrum. IDEX, for example, recently announced it would be blocking IPs from certain regions while moving to enforce KYC to comply with AML regulations. Decentralized exchanges also suffer from several problems that have somewhat reduced their appeal to many traders. Although DEXs can theoretically list any number of active trading pairs, this does not appear to be playing out, with DEXs listing 50 percent fewer pairs than centralized exchanges on average. In addition, decentralized exchanges have failed to cater to high volume traders, who typically favor exchanges with the lowest trading fees, which, as it stands, is a segment dominated by centralized exchanges with tiered fee schedules. Decentralized exchanges also tend to have a barebones user interface and lack the more advanced features such as market analysis, charting tools, and advanced trade options that are commonplace at even the most basic centralized alternatives. Despite the challenges, innovation continues to improve as the number and variety of decentralized exchanges increases. In time, it is likely that the challenges of scaling will be addressed, and a decentralized exchange that meets the needs of the market will be unveiled to an eagerly awaiting audience. What is your opinion on decentralized exchanges? What do you think needs to be accomplished before they can be truly competitive with centralized exchanges? Let us know your thoughts below!