To a large extent, the terms exchange and a margin trading go hand in hand. Rarely will you come across an exchange that doesn’t support margin trading? And though this was, for the longest time, synonymous with traditional exchanges, margin trading has in recent years found its way to the crypto world. But when it comes to cryptocurrency trading, are you better off margin trading in a centralized or decentralized exchange? What are the merits or demerits of margin trading on either exchange?
This guide seeks to answer this question by highlighting the advantages and downsides of margin trading on centralized and decentralized exchanges.
But first, let’s try to understand what margin trading in the crypto industry entails:
What is Margin Trading?
Margin trading is a form of trading where the trader enters into a trading position using funds loaned to them by the exchange and broker. Take, for instance, the value of Bitcoin that is currently way out of reach of most small scale traders. The only way most of these can get to buy 1 BTC or a decent portion of it, say 0.5 BTC, is through margin trading. In this case, they only have to stake small amounts to the trade and the exchange avails the rest.
You can consider it a loan where the investor injects a certain amount and the exchange platform boosts your purchasing power by granting you the extra trading cash. The amounts advanced are almost always expressed as a ratio of your deposited funds. This can expressed as 1:100, 1:200 trading margin or more. And these funds serve to increase your trading power exponentially.
Take, for example, a trader deposits $5,000 into his trading account with an exchange that facilitates margins of up to 1:5. When the trading leverage is applied, the trading amounts increase to hit $25,000 ($5000*5). And assuming the price of one Bitcoin is $10,000, he can now buy 2.5 BTC with the $5,000 deposit.
It is important to note that there is no industry standard for margins when it comes to crypto trading. Different crypto exchange platforms, therefore, express their discretionary rights in determining their site’s acceptable trading margin.
One of the most significant benefits of margin trading is that it boosts your purchasing power. This allows you to enter into larger trade positions with higher returns. The downside to this is that you stand to lose your investment , should the trades entered into fail to materialize.
After understanding the concept of margin trading, we can now have a look at how it is applied in both the centralized and decentralized crypto exchanges.
A centralized exchange has one key feature: the trading exchange has a near-absolute control of all the trades. Here, the exchange company has access to all the customer accounts and private keys and is also at the center of all the transactions taking place on the platform. This means that you can’t initiate trade without the exchange’s verification. And that your transactions have to be confined within the exchange’s accepted minimums.
These are not any different from traditional exchanges and financial brokerages. And while they have embraced blockchain technologies in their systems and will only deal with cryptocurrencies, they continue to face challenges similar to those facing traditional exchanges. These include:
- Security Challenges
One major challenge facing centralized cryptocurrency exchanges is cyber insecurity. The centralized nature of their systems and storage facilities for their client’s digital assets makes them a target for most cybercriminals. Once breached the results have always been catastrophic. A case in point is the recent breach of the Binance cryptocurrency exchange where hackers made away with more than $40 million worth of digital assets.
- Hidden Costs
Some crypto exchanges charge hidden fees not included in the contracts. Some of these hidden costs are:
- Margin fees: some companies such as Kraken charge fees for opening margin contracts.
- Trading fee: This is charged for conducting transactions on the platform. It is a standard fee in all exchanges, but some have hidden costs within the trading fees.
- Long and Short Funding: Bitmex charges a fee between longs and shorts thrice a day for perpetual contracts.
This has always been an issue with almost all centralized exchanges. Remember, you are required to trust your third party with your details, such as credit cards, addresses, phone numbers, and IDs. This highly sensitive personal data is at risk of falling in the wrong hands in case of a security breach in the exchange platform’s systems.
Margin trading in decentralized exchanges
Unlike centralized exchanges, decentralized exchanges do not involve a third party facilitating trade between their clients and the market. Here, transactions are hosted on highly decentralized peer-to-peer blockchain systems.
In short, decentralized exchanges eliminate the need for a ‘middle-man’ by providing a system where buyers and sellers can interact with the market directly.
And this has a ton of advantages:
- Secure System
In a decentralized system, you are in charge of your wallet and funds. You can access it whenever and wherever you want. This improves the security of the trades as it is not dependent on the trustworthiness of the exchange platform. Additionally, you are in charge of selecting suitable security measures for your wallets.
- Enhanced Privacy
Decentralized exchanges do not require identity verification to complete transactions unless it involves bank transfers. Cryptocurrency trades between users are anonymous and the platform allocates you a code on the blockchain.
- No Hidden Charges
Most decentralized platforms have zero hidden fees in their transactions as everything is programmed and spelled out. NUO Network is an excellent example of a decentralized exchange without hidden fees.
Centralized exchanges may have dominated the crypto industry early on but traders are now more aware of the unending challenges facing these platforms. And from this guide, it is clearly evident that you are better off advancing your trades, leveraged or otherwise, on the decentralized exchanges. These don’t just offer the promise of lower fees but they offer better security and maximal privacy.
You can join us on Telegram for a follow-up of the market throughout the day.
For any question, our team will be happy to answer you on our support which is open 7/7 days.
For any information about our subscriptions, please visit our website or contact @butler_4c_bot directly to get all the information you need.