Custodial trading requires users to make deposits through an on-blockchain transfer, usually from a user wallet to the exchange wallet. All transactions execute on a centralized database. Coinbase and Binance are good examples of centralized custodial exchanges.
The ability to secure funds is one of the essential features of an exchange. However, this comes at a cost that can be both beneficial and detrimental on occasion.
The advantage of a custodial system is that it allows exchanges to make decisions based on the needs and wants of their platform. User experience is easy and seamless compared to non-custodial exchanges. Users don’t have to worry about maintaining cold storage or feeling insecure trading on custodial exchanges because all transactions occur privately.
The disadvantage of custodial exchanges is they expose users to exploit dangers. If hackers compromise the database holding funds, they can take over the entire system with ease and access all user information.
Notable custodial exchange hacks include $40 million stolen from Coinrail, $500 million stolen from Coincheck, $45 million hacked from Binance, and the $195 million hacked from BitGrail. The stories are prevalent.
Centralization will always be a security risk
Cryptocurrency exchanges like Coinbase and Binance have broken through barriers that only a few years ago seemed impracticable. They’ve opened the possibilities for several other mainstream cryptocurrency brokerages to follow suit, providing users even more options when trading their coins online!
But with great power comes great responsibility meaning the top exchanges are always under constant scrutiny and regulation to deliver excellence.
Many crypto exchanges worldwide aren’t correctly regulated, meaning they can resort to unreliable and dishonest practices to cut corners on security. This can lead to many people who use these services to suffer the consequences of an insecure platform.
More action is required
An ideal solution for custodial exchanges would be implementing hot wallets and cold storage for users’ funds.
Hot wallets allow funds to trade while cold storage stores funds away in secure accounts not connected to the internet and away from potential exploits.
Since most exchanges are not transparent with their transactions, it isn’t easy to recognize which ones are following best security practices.
In addition to the risks associated with exchanges having custody of user tokens, there are risks associated with these exchanges’ centralized networks and infrastructure.
A lower barrier to entry has made it almost impossible for investors to discern which exchanges abide by strict security standards.
Non-custodial exchanges provide greater freedom
Non-custodial exchanges are exchange platforms where users are 100% in control of their wallets and funds, i.e., they retain access to their private keys.
Whether mobile, hardware, or web-based, non-custodial exchanges allow users to store their assets in their wallets.
Assets are never transferred to the exchange’s wallet for safekeeping.
This allows every transaction to be reflected in real-time as opposed to their custodial counterparts.
The removal of counterparty risk
One of the most important benefits of using a non-custodial exchange is that your tokens are safe. It also makes sense for many reasons: if a hack happens on custodial exchanges, users employing non-custodial methods of storage won’t lose anything because their funds belong with them.
Another benefit of using non-custodial exchanges is investors can buy unlisted coins with interest-bearing offerings. They can also participate in ICOs.
Users can also use liquidity aggregators like FLUID to analyze and collect orders from different exchanges and liquidity pools. These aggregators help deliver innumerable buying opportunities to traders.
Non-custodial exchanges have downsides too. If a non-custodial exchange wallet password or private keys are lost, the user will lose access to the wallet and any associated funds. Custodial exchanges systems employ recovery mechanisms for this purpose.
It’s important to note non-custodial trading systems can also be centralized exchanges. Most of the platforms supporting peer-to-peer trading also allow transfers between two different wallets. Others incorporate trades between users and exchange wallets as a way of fostering liquidity within the ecosystem.
FLUID aids in the removal of counterparty risk by using an off-blockchain trading approach of consolidating a master order book to facilitate cross-exchange liquidity.
FLUID Unifies exchanges for ultimate liquidity
FLUID unifies liquidity on custodial and non-custodial exchanges using a smart-order routing engine and multi-chain liquidity aggregator.
The goal is to establish interoperability between different exchanges and boost trading pairs across all chains.
FLUID is developing a bridge between centralized and decentralized networks helping both parties increase their trading volumes.
With zero cost, zero risk, and lighting fast transfers, FLUID’s cross-exchange liquidity aggregator is the solution to liquidity issues plaguing DeFi.
If users prefer an easy-to-use UI and simpler funds storage services, custodial exchanges are the ideal option. Acknowledging the security flaws and compliance clampdowns straining custodial exchanges, It makes sense to back non-custodial exchanges as the future.
Fortunately, FLUID has a way to integrate the best of both worlds.
About Fluid
FLUID is an institutional smart order routing engine and liquidity aggregator that brings high-throughput and cross-chain liquidity to the digital asset exchange space at zero cost and no counterparty risk. With every asset aimed to be tokenized in the future, FLUID is positioned to capitalize on penetrating cross markets, including spot, futures, derivatives, synthetics, STOs, and tokenized assets to provide the railways with interoperable liquidity markets.
FLUID is backed by a professional team consisting of ex Bankers of Bank of America, Merrill Lynch, Goldman Sachs, BNY Mellon, Citibank, Visa, and founders of leading regulated digital asset OTC trading desks, quantitative firms, and popular blockchain companies.
