The beginner's guide to cryptocurrency exchanges

13 March, 2019

Exchanges are where all the action takes place in cryptocurrency. They are the place for new users to purchase their first round of coins. They are the platform through which high-volume traders buy and sell the hot coins of the day. Simply put, you are likely to have to do business on an exchange regardless of how often you use cryptocurrency.

We previously posted an article explaining the top five things to consider before choosing a cryptocurrency exchange. If you have not read that post yet, we highly recommend you do so as soon as you complete this post. The combination of the two posts should give you a basic understanding of how exchanges work.

The point of this post is to explain some of the finer points of buying and selling on exchanges. Note that this information is pertinent even if your only desire is to buy some bitcoins so you can play Mega Moolah online. You have to get those coins from somewhere, and they will most likely come from an exchange.

A brief explanation

Let us start with a brief explanation of what an exchange is. An exchange is an online platform that brings buyers and sellers together. Buyers will register on an exchange in order to purchase the coins of their choosing. Sellers also register, then post their coins for sale. That's about it.

The cryptocurrency exchange is nearly identical to a stock exchange in terms of function. The exchange lists the various sellers and what they have on offer. Also listed are current market prices. Buyers can then review data and decide when and what to buy.

Buy and sell orders

Just like on a stock exchange, there are different kinds of buy and sell orders used within the cryptocurrency marketplace. They are known as market orders and limit orders. Let us talk about each one.

A market order is an instant, on-the-spot order based on the current price for a given coin. Market orders represent the easiest and most hassle-free way to buy and sell digital coins. As a buyer, let's say you're interested in purchasing the equivalent of US$100 in Ethereum Classic. The minute you place your order, it is filled. At the current price of $5 per coin, you would be purchasing 20 coins on the spot.

The process works in reverse for sellers. If you are the one selling the coins, you would be trading 20 coins in exchange for $100 the minute a buyer pulls the trigger on that sale. The advantage for both buyers and sellers is that transactions happen quickly. The downside is that they might miss out on better opportunities later in the day.

A limited offer doesn't necessarily take place immediately. Limit offers are based on specific price targets. Again, let's say you're trying to sell Ethereum Classic. You want to place your sell order now even though you suspect the price might go up by the end of the day. Let's say you place your order at $5.50 per coin. If the price remains below that amount through the end of the day, your coins will not sell. The moment the price reaches $5.50, a sale will be facilitated.

Buying on a limit order works the same way. You may choose to buy Ethereum Classic based on a price lower than the current price. Let's say you're looking to come in at $4.85. You place your order and wait. Should the price fall to that amount, the exchange will automatically pull the trigger on your purchase.

The obvious disadvantage to limit orders is that they may take some time to go through. You can place an order today and have it remain open for a couple of days. Then again, it could go through in as little as a few hours. It really depends on market movement on that particular day.

Buying with fiat

Given that the exchange is the place for newcomers to buy their first round of coins, there is an obvious expectation that fiat will be used. That is all well and good, but not every exchange accepts fiat payments. That is just the way it is.

There are some exchanges that do not accept fiat of any kind. There are others that limit their fiat support to major currencies like U.S. dollars, British pounds, and euros. So what is a new user to do in the absence of an exchange that accepts fiat? There are crypto services that act as alternatives.

Coinbase is a good example. Although Coinbase is technically an exchange, their specialty is converting fiat into cryptos like Bitcoin, Bitcoin Cash, and Ethereum. They offer support for nearly three dozen fiat currencies and serve customers in 190 countries around the world. The best part is that Coinbase offers a mobile app that makes it easy to purchase coins with fiat.

That initial purchase of coins introduces the new user to the cryptocurrency marketplace. Those coins can be kept with the exchange or transferred to a new exchange that doesn't accept fiat payments. Transferring may give the new user access to a wider variety of coins for the purposes of diversification.

Coin storage

The next thing to understand is what actually happens to your coins after they are purchased. With very few exceptions, exchanges store your coins on their servers by default. That is why we previously mentioned transferring newly purchased coins from one exchange to another.

Pulling your coins out of storage is necessary if you plan to use them for every day buying and selling. Playing Mega Moolah online provides a good illustration here. You need access to your coins if you expect to make a deposit at a Bitcoin casino. To get access, you have to pull your coins out of the exchange.

This is accomplished by initiating a withdrawal of coin from the exchange to your digital wallet. Once the coins are in your wallet, you can then initiate a transfer to the online casino through their deposit page. You would have to do the same thing to buy goods or services online using your coins.

Unfortunately, there are some exchanges that charge a withdrawal fee. Keep your coins on the exchange for the purposes of trading and no such fees are assessed. But try to make a withdrawal into your own digital wallet, and you are going to pay for the privilege of doing so.

The good news is that the fees are not typically excessive. For example, Binance charges a fee of 0.001 BTC on all Bitcoin withdrawals. At the current price of roughly $3,800 per coin, a Bitcoin withdrawal would cost you just under US$4.00.

This leads to the obvious question of whether or not you should continue storing coins on an exchange to avoid withdrawal fees. We would say yes if you are primarily an investor and you are confident in your chosen exchange's security and track record. We would say no if your purpose for purchasing cryptocurrency is to transact business online.

Other exchange fees

Withdrawal fees are just the start in terms of what you pay for the privilege of buying and selling on an exchange. Cryptocurrency exchanges, just like their traditional securities counterparts, charge transaction fees for executing trades. These fees can range from 0.01% to 0.1% for a single trade. Some exchanges go even higher.

There may be other fees assessed as well. It is up to buyers and sellers to figure out those fees before agreeing to trade on a particular exchange. Our advice is to search for fee information as part of the process of choosing an exchange. Any exchange that refuses to divulge fees should be avoided. Not only is such failure illegal in many jurisdictions, it is also highly suspicious.

Individual security

One last thing you should know is that every buyer and seller who conducts business through an exchange is responsible for his or her own security. Exchanges can only do so much to protect users and their accounts. Users are expected to take all reasonable steps to protect their account information, their digital wallets, their private keys, etc.

This is another reason we recommend not storing your coins on an exchange unless you are a persistently active trader. You are far better off getting them out of the exchange and put into cold storage. Even a software-based wallet residing on your laptop computer is better than leaving your coins with an exchange.

The unfortunate reality is there are no guarantees of security when you're dealing with an exchange. Cryptocurrency accounts are not insured, like bank accounts are, so losing your coins to a hacker is what it is. Your coin is gone and you will never get back.

There are likely some basics of cryptocurrency exchanges that we have not covered here. No worries. The internet is awash with helpful information from cryptocurrency experts and users alike. You can find information on just about any topic simply by searching whatever questions are running through your mind.

Whatever you do, remember that knowledge is power. The more you know and understand about how cryptocurrency exchanges work, the more you will be able to figure out how to put yourself in the best possible position to buy and sell.