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The Future of Trading is Decentralized

With the recent events of the last week’s activity in the stock market, attention has grown around trading (buying and/or selling) certain stocks. Robinhood has been a popular platform used to execute these trades, though it began halting trades on January 28th. Other popular brokerage and investment platforms followed suite by halting trading of select stocks on their platform as well. This action caused a major uproar among traders and the general public who could not buy and sell these stocks and were forced to hold these assets until these centralized entities released their temporary hold on trading. The result of these actions brought attention to a popular idea that has been buzzing in the digital currency industry for the past few years: decentralized trading.

What is Decentralized Trading?

A decentralized exchange, or DEX, is a peer-to-peer (p2p) online service that allows direct transactions between two interested parties. A DEX creates a p2p market directly on a transparent ledger, or blockchain as is the case with digital currencies, which allows traders to independently observe transactions in real-time. This public ledger offers full transparency to all traders in the ecosystem with the sellers connecting directly with the buyers. The decentralized nature of this process eliminates the need to have a centralized entity, like Robinhood, settle the transaction. Additionally, a DEX eliminates the possibility of a centralized authority having control and being able to choose what assets can be traded and when.

What are the Differences Between a Centralized Exchange and a DEX

Centralized exchanges take ownership to your assets, whether it is cash, stock, or digital currency, by holding these assets on their platform. A popular saying among the digital currency community has been: “not your keys, not your coins” referring to that fact that if you do not have ownership of the private key of your digital currency wallet, then you do not have title to your tokens, or coins. A DEX does the exact opposite by allowing the user to take title to their assets.

Between a centralized and decentralized exchange, there are a few key differentiators. Decentralized exchanges offer the opportunity for users to have full control of their funds, but the platforms typically have no customer service assistance and deal in smaller trade volumes. On the other hand, centralized exchanges offer better customer service and easier to operate platforms while trading at a greater volume, but users do not have full access to their funds.

Are There Disadvantages to Using a DEX?

There are some common difficulties that arise when taking title and owning your assets as opposed to holding this information with a third party. Three main disadvantages are:

1. Inability to restore your account access:

  • If you forget your account login or misuse funds, there is no way to recover this account access. It is critical to store your passwords in a safe place in order to always be able to recover them in case of an emergency.

2. Processing speeds:

  • Depending on the number of users and transactions, the network could become bogged down, causing excess time spent waiting for transactions to be confirmed on the public ledger (blockchain). One of the benefits of using a centralized platform can be immediate settlement.

3. No support services:

  • Once a trade is finalized, the only way to undo a transaction is if the receiving party agrees to this action. One of the more intriguing aspects of transacting in digital currencies, for example, is that settlement is final. Disputing a transaction with an intermediary, for example contesting a charge with your credit card, is not likely to be possible as the purpose of using these decentralized services is to eliminate any involvement of an intermediary.

Will Using a DEX Happen Sooner Rather Than Later?

As we saw from the negative reaction by the general public towards halting trading on certain stocks, but not others, it became obvious to many that this can happen at any time as long as people continue to use a centralized entity. We all use these platforms to make our everyday lives easier and more productive, but the events that occurred on January 28th were eye-opening to many traders that there is a need in the marketplace for a p2p trading ecosystem of not just digital currencies, but other assets –  including stocks.

Contact our Withum’s Technology and Emerging Growth Services should you have any questions.

Technology and Emerging Growth Services

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