How to make a Decentralized Cryptocurrency Exchange?
Cryptocurrency has come up big in a way nobody expected it to. Everybody and their dog is talking about bitcoin, ether, blockchain, DLTs and what not. There’s good reason to it, too. With the advancements in science and technology, the financial sector has also acknowledged that new and improved techniques can be used for the betterment of the industry. These methods include implementation of Blockchain, acceptance of cryptocurrency, decentralization of currency exchanges and what not.
Hold up, what?
What is a Decentralized Exchange?
Some of you might have heard this term for the first time. For the veterans, they know all about it. Don’t worry, we’ll explain exactly what a decentralized exchange is, and why you should be looking into it. Currency exchanges are very easy to grasp and understand. You have a certain amount of currency X, but you wish to obtain currency Y for your leisure or work trip.
Simple, you head to a currency exchange, and get your currency X exchanged for Y as per the going rate. This exchange is the intermediary between two customers, two dealers. It helps people to get the desired currency in exchange for some unneeded currency that they may possess.
Now, cryptocurrency, as of now, is not accepted all over the globe as a mode of payment. Therefore, people, if they possess a certain amount of any cryptocurrency, must exchange it for fiat currency before spending it on their needs and wants. Some people may also be interested in earning money through trading cryptocurrency.
This is exactly where these exchanges come into play. They offer intermediate environments to customers to exchange, trade or act as middlemen to other transactions. This also provides an earning opportunity to people who are looking to delve into the world of crypto trading.
Up until now, centralized exchanges have ruled the roost. They are controlled and monitored by a central governing body, this may be an organization, a bank or even the government of a country if the exchange is run by them. They are easy to use and access, and provide features like margin trading. People are fully aware of them and hence look to exchange through centralized sources only.
There is one huge shortcoming of these exchanges, though.
They present a severe security problem, a security risk to your funds. Some exchanges might be more secure and tighter than others, but hacks and attacks are common in today’s tech-advanced world. Some exchanges are simply incompetent and incapable of lasting in the market and may use malicious activities like fractional reserve systems which may lead to bankruptcy or investor bailout.
The security issues with centralized exchanges were amplified by the Mt. Gox and the Bitfinex hacks.
More than 66 million USD worth of bitcoin was stolen from Bitfinex, one of the world’s largest digital currency exchanges. The vulnerability of multi-signature accounts and the way Bitfinex handles them was exploited to hack the system.
Community members took to social media to expose the news of their accounts being drained, and this hack had a direct impact on the price of Bitcoin, which tumbled to as low as USD 480 before recovering.
After the hack, Bitfinex remained offline, displaying a message to the users, which stated, “The era of commingling customer bitcoin and all of the associated security exposures is over.”Security is too major a problem to be ignored. Who would want to lose their potential lifetime earnings due to some silly hack on the exchange that they use? How to solve this glaring issue?
Making an exchange is one method.
Step in decentralized exchanges
A decentralized exchange is a market that is not controlled or presided over by any third party to hold consumer funds. Here, trading can be done directly between two customers through a peer to peer connection. This can be achieved by using proxy tokens, multi-signature systems and many other technologies currently in development.
Why and how to make a decentralized cryptocurrency exchange?
They solve the most obvious problem with centralized ones- the problem of security and trust. Decentralized exchanges are basically trustless systems, as we are not required to have faith in a third party or the exchange itself to handle our funds. All finances are controlled by us in our own personal wallet.
These exchanges also offer a high degree of privacy, as users do not need to disclose any personal details to other traders, except, in some cases, to the person who is buying or selling from them. Anonymity, security and high hacking resistance are what makes these decentralized exchanges one of the more efficient methods to trade in crypto. Some of these currently in operation include Bisq and EtherDelta.
Wondering how to make a decentralized cryptocurrency exchange? Making an exchange is now as easy as you’d like! Read on.
Okay, so you have decided to build and operate your own cryptocurrency exchange.
Congratulations, by reading this article, you are on the right track already! Here, we cover all the steps required to set up and operate your own decentralized exchange in utmost detail. From the basics such as abiding by rules and regulations in the country of operation, to the most advanced APIs and app development work, we have it all covered.
So, let’s start with the basics. How to make a decentralized cryptocurrency exchange is how to build a business, essentially. With every business, there come some rules and norms of the industry that you are required to follow. Similarly, when you answer the question ‘How to make a decentralized cryptocurrency exchange’, you must follow a certain set of rules. Here we discuss this situation in more detail.
How to make a decentralized cryptocurrency exchange: What features should it have?
Decentralized cryptocurrency exchanges present to us a way of managing finances and trades which is unheard of. What makes them different from other options in this category are some distinct features that truly characterize decentralized exchanges.
There are some key features that you must incorporate when you focus on how to build a decentralized cryptocurrency exchange. From anonymity to security, from the control of funds to scalability, there exist some fundamental features that, simply put, have to be there in a decentralized exchange. After all, they make the exchange what it is.
Here we shed some light on these standout features one by one.
Control of funds
Since decentralized exchanges have no governing body looking over the functioning of the exchanges, all funds and currency that moves over the network is controlled by the users themselves. The participants in the platform have complete control over their funds. Sure, there is more work involved in maintaining and updating your accounts on your own, but it makes you the true owner of your currency, which should be the case.
Decentralized exchanges are less prone to attacks and hacks since they have no single point of entry. An attacker would need to infiltrate multiple nodes on the network simultaneously in order to even have a chance of compromising the network. Even if one or two nodes go down, the exchange keeps functioning as it is independent of any central server or node that controls the whole process. This leads to added security over the network and gives more power to the users or participants in the network.
Decentralized exchanges are the distributed blockchain equivalent of centralized exchanges. They ensure privacy and anonymity for every user transacting on the network, as users are not required to provide their personal details to anyone, except if the trade involves bank transfers. Even in that case, the user’s identity is revealed only to the person buying or selling from that user. Thus participants can use decentralized exchanges in a carefree manner, knowing that their identity and their money is safe.
Due to the decentralized nature of these exchanges, there is no dependent on an intermediary or third party to authorize and authenticate transactions. For example, in the case of bitcoin, users on the network themselves authorize transactions and then relay authentication details to all nodes on the network. This also has the added incentive of generating currency for the authenticating user. By means of tactics such as smart contracts and blockchain protocols, trustless authentication and authorization of transactions are possible on decentralized cryptocurrency exchanges.
Decentralized exchanges provide an infinite potential for scalability. The usability of these technologies may not be sky-high as of now, but it remains something to look out for in the near future. Especially in the fintech sector, the potential of decentralized exchanges remains a point to be kept in mind whenever innovation is brought up. As for the scalability part, expansion of a decentralized exchange is incredibly easy, again owing to its decentralized nature. Anybody can join the network and start trading on it, and thus be established as a node in the network.
Easy integration with existing wallets
A major merit and a huge point to be considered when we think of how to build a decentralized cryptocurrency exchange, integration with hardware wallets remains a key advantage of decentralized exchanges. Users can transfer currency directly from their hardware wallets to any existing decentralized exchange. The need to manually enter private keys is also removed, as some services like MetaMask offer options for users to import private keys from existing networks in order to access funds through Metamask. This saves the user from keyloggers and other malicious software attacks.
Thus, whenever you think about how to build a decentralized cryptocurrency exchange, you must look into adding all of the aforementioned features into your exchange. This, simply put, is a must for any exchanges out there, as they are what describes and characterizes a decentralized exchange. Security, integration, anonymity, and authentication are paramount when it comes to establishing your own exchange. So, get your facts right, and do things the right way.
The architecture of how to make a decentralized cryptocurrency exchange
Okay, so you have decided to build your own decentralized exchange. You’ve researched about all the legal permissions and regulations that you need to follow, and you’ve decided what cryptocurrencies to trade in. Now what? It’s time to get yourself familiarized with the architecture and system behind making an exchange channel. The advanced stuff, the technicalities, the front and backend stuff, and all the intermediary processes that are involved in making an exchange successful.
Without further ado, let’s get into it. The first step- concocting a contract logic for trading. Here, we start out on how to make a decentralized cryptocurrency exchange. If you are aware of the workings of Ethereum, you probably know what smart contracts are. Smart contracts are basically contracted terms between two customers written into the code of a database, for instance, blockchain. According to the coded terms, the contract executes itself whenever the executing condition is fulfilled.
Thus, on your exchange, you can formulate a similar smart contract logic which can generate cryptocurrency tokens on the same chain that you are working on. The only real flaw in this design is to design such a token using these contracts which can be connected to other currency exchanges, in order to trade using other currencies. This architecture can prove out to be detrimental for its use in point of sale solutions.
The Smart Contract.
Once a smart contract logic has been commissioned, there needs to be a validating procedure in place which verifies the integrity of the trades taking place. Taking the example of Bitcoin, it only allows up to 3 participants in multi-signature transactions, which is way less than a suitable number for the exchange to be considered legitimate.
We need some kind of signature verifications that can be done by a large number of participants, say about 50, out of which a majority needs to approve the trade in order for it to be considered legit.
We can do so by designing a threshold signature that is backward compatible with our native currency signatures, which will, in turn, install a notion of trust between the signing parties. This is because now, a method will be in place to accept one kind of currency in exchange for tokens of another currency, essentially the trade process which takes place in an exchange.
But why would people spend their own computing power to do someone else’s work?
This is where the concept of incentives comes in. As current cryptocurrencies reward ‘miners’ or transaction verifying agents by issuing currency in their name, a similar incentive scheme needs to be put in place on our exchange in order to encourage verifying parties to stay in the exchange and perform honest practices.
This can be done on the most basic level by giving them a small fee on all the trades that they verify. In order to facilitate this further, one could partner up with banks or other financial firms to bring the concept of fiat currency to process these payments as well.
Partnering with a bank would also be beneficial, as it would lead to faster settlements of payments and addition and withdrawal of fiat currency. Banks can also facilitate payment gateways which is an added bonus. Making an exchange comes with its benefits, you see?
A management system is now needed
Centralized cryptocurrency exchanges have a governing body presiding over every trade and transaction that occurs in the system. Exchanges like Mt. Gox and Bitfinex are centralized, and they are completely managed and operated by central organizations. Their eventual hacking and loss of funds of the customers prompted something different to spring up in this field.
Decentralized exchanges are the difference that has sprung up. They, as the name suggests, are not controlled by any central body, rather they are autonomous. How to make a decentralized cryptocurrency exchange now has comprehensive answers. But they still need a system to manage the trades taking place on the network.
How is it done?
This can be accomplished by designating some currency holders as the administrators, who receive shares of the fees levied on the transactions. These administrators could be applied for by other nodes of the exchange network in due time so that every one of them stands a fair chance to become an admin and reap the rewards.
Now, certain security measures need to be in place to prevent attackers from buying up all the voting rights and stealing the deposited funds. This can be achieved by changing of admins after an extended delay which can provide customers with ample time to take their money out of the exchange if an attack happens.
Designing software at both front and backend
After all, the logic has been decided and the administrators have been chosen, and the method of how to make a decentralized cryptocurrency exchange has been decided upon, there must exist some special software with administrator privileges that allow them to watch over the network and perform their job of verifying trades.
Similarly, at the front end, apps or software need to be designed for users to continue trading on the exchanges, a wallet needs to be provided for them to store their currency, and if needs be, any third party may be employed to develop the aforementioned on a safe and secure basis.
Additionally, an API could be created which links your own exchange to other existing exchanges in order to showcase liquidity on the network. Once all of this is done, there is the small matter of…
Garnering funds, setting up the final applications and customer support and security.
Funds and processing power could be collected by organizing events such as crowdfunding and crowd sales, this would further help in assuring liquidity in the exchange. Customer support channels also need to be set up, since this is a new venture, potential traders are bound to have problems and questions about the working of the exchange.
When all is said and done, you’ve learned how to make a decentralized cryptocurrency exchange, and the exchange goes live, all you have to do is pray that volumes increase quickly and your exchange becomes the next big thing! And don’t worry about the security, the decentralized nature of the exchange makes it largely resistant to hacks, unlike the centralized exchanges.
Congratulations on taking the first few steps to becoming a crypto legend! You now have a majority of the information on how to make a decentralized cryptocurrency exchange! Okay, so the question ‘How to make a decentralized cryptocurrency exchange’ has been answered! You’ve made your own crypto exchange! Congratulations on making it this far! But the process has just started, and you must keep going.
For the developers looking for information on how to make a decentralized app, check here.
Security. Maintenance. And Management.
Keeping a business going involves so many factors, one might almost lose count of them. There’s maintenance of equipment and personnel, there’s proper handling of clients, management of schedules, practicing efficient techniques, and maybe, most importantly, security. Once you know how to make a decentralized cryptocurrency exchange, you must also know how to keep it secure. When a decentralized cryptocurrency exchange is under consideration, security and protection are of prime importance. No business owner would want to incur losses to both his/her assets and his/her customer’s possessions due to some security flaw in his/her system. We say that security is of prime importance in relation to a currency exchange because,
- First of all, it deals with finances and money. People love their money more than most of the things in this world. Therefore, their money must be protected with all that you have.
- Secondly, all major work will be done online. Now, there are plenty of hackers out there, who will look to exploit the tiniest flaw that your system might have. You risk losing all that you’ve done in the blink of an eye.
Thus, security and protection must be uncompromising, when you look into how to make a decentralized cryptocurrency exchange. A glaring example of this statement is the Mt. Gox exchange hack of 2014.
Mt. Gox was the largest bitcoin exchange in the world at the beginning of 2014. It handled over 70% of the total transactions worldwide. One fine day, Mt.Gox fell victim to a massive hack that drained the company of 740000 BTC, equivalent of 460 million euro at the time. Eventually, 200000 bitcoins were recovered, but the rest were never recovered.
It was rumoured that the hack was already in motion since 2011, prior to which, the private keys of the wallets of all the customers were unencrypted, which led to a hacker being able to steal the file related to the wallet of a customer, and gradually eat away at their bitcoins without the company servers detecting this. Thus, by 2013, Mt. Gox had practically lost all of its BTC. The company remains under bankruptcy protection, and the case is still under investigation.
The impact of these incidents.
This whole incident, and many others like this, multiply the need for tight security amongst these exchanges. And reiterate the importance of how to make a decentralized cryptocurrency exchange, and yours is no exception. Your decentralized exchange must be able to handle all kinds of malicious attacks, such as
- A DDoS attack
- Stealing of authorized or restricted access
- Firewall breaches
- Suspicious activity in general
- Unauthorized access to the accounts
- The rogue process due to privileges
And the list goes on. With the advancement of technology every day, new ways are being discovered to break the walls behind which online businesses stand. This makes it important to have a solid foundation and a hackproof business system which can guarantee safety of assets.
Think of compliance.
When you build your decentralized cryptocurrency exchange, you must also comply with the cryptocurrency security standards (CCSS). In the realm of payments using fiat currencies. The security can be attributed to the Payment Card Industry Data Security Standard (PCI DSS). On a similar note, the CCSS was introduced in 2014 to provide secure management to cryptocurrencies. It is an open standard that focuses on the storage and usage of cryptocurrency within an organization. It is basically a security standard for the wallets that store currencies.
What can be better than engaging the professionals in a matter as important as security?
Third parties are generally quite efficient in handling specific aspects of businesses that require professional attention. Security, most definitely is one such area. If you are looking to support your business project with the help of third parties, you can look at a costing of about USD 200-2000 monthly, which depends on the location and area of operation.
You could also look to seek professional help when it comes to developing the applications and APIs for your exchange, or for customer support operations as well. So there it is! This is all you need to know in regards to how to make a decentralized cryptocurrency exchange!
Sounds too big of a task for you? We have it covered!
At Sodio, we look to provide our customers with the best there is in regards to Blockchain. We offer industry-disrupting solutions to your blockchain problems, such as how to make a decentralized cryptocurrency exchange, and can certainly assist you in building your own cryptocurrency exchange. This is all made possible by our talented team of 20+ blockchain developers, who are equally skilled and experienced in all kinds of projects.
Contact us if you would like solutions to all your crypto and blockchain problems!
get in touch!