A cryptocurrency exchange is a business that allows customers to trade cryptocurrencies or digital currencies for other assets, such as conventional fiat money (state-backed currencies, such as USD) or different digital currencies.
See also Buying and selling
Exchange in Trezor Wallet
For more information about crypto-to-crypto exchanges, see the relevant section of this article below.
Types of exchanges
There are two main types of cryptocurrency exchanges - some exchange fiat currencies for cryptocurrencies, others exchange only cryptocurrencies. Many of the large exchanges combine the two functions.
These exchanges trade fiat currencies for cryptocurrencies and vice versa. Most major exchanges are of this type.
Although a fiat-to-crypto exchange can be a brick-and-mortar business, most function strictly online.
To start using a cryptocurrency exchange, customers have to register with the exchange and go through a thorough verification process to authenticate their identity. This is a result of know-your-customer legislation and anti-money-laundering laws. Once the authentication of a user is complete, an account is opened. The user then has to transfer funds into this account before he or she can start trading. These balances are then used to trade with other customers of the exchange. As long as the exchange itself does not commit fraud or withhold money (and is not hacked), the risk of losing money due to people not fulfilling their part of the deal is significantly lower than in over-the-counter transactions.
Different payment methods can be used for depositing funds, depending on the exchange. These can include bank wires, direct bank transfers, credit or debit cards, bank drafts, or money orders. Making deposits and withdrawals can include a fee, depending on the payment method chosen to transfer funds. The higher the risk of a chargeback from a payment method, the higher the fee. For example, when using PayPal or a credit card, the fiat being transferred can be reversed and returned to the user if requested, so the risk for the exchange is higher.
Additionally, traders may also be subject to currency conversion fees, depending on the currencies used on the exchange.
Some exchanges enable trading cryptocurrencies for other cryptocurrencies only.
Many of these exchanges do not require identity verification or an account to allow transactions. They simply charge a fee for each transaction. This allows cheaper buying and selling as well as increased anonymity. However, due to the increased enforcement of the know-your-customer and anti-money-laundering legislation, many crypto-to-crypto exchanges now require at least some form of user identification.
Risks of keeping cryptocurrency funds in an exchange
When buying crypto funds in an exchange, it is recommended to withdraw them directly to an account protected by your Trezor. There are examples of exchanges being hacked and funds being stolen, the most notorious example being Mt.Gox, where more than 850,000 bitcoins were stolen in 2014 (see this article for more information). It is important to remember that one can only truly claim to own cryptocurrency funds if he or she is the only owner of the private keys enabling access to these funds.