Trading Crypto (Part 1)—Crypto Exchanges

The first of a two-part series on trading crypto, this discusses the mechanics of executing crypto trades. The second part discusses making trading decisions.

Introduction

If you want to trade crypto, you need to use one or more crypto exchanges. In general, there are two types of exchanges: 1. fiat currency-to-crypto exchanges and 2. crypto-to-crypto exchanges. There are, however, exceptions that blur the distinctions. This document explains these two types of exchanges and related distinctions in detail. 

First, we need to define some terms and concepts. 

Fiat Currency. A “fiat currency” is a government-issued currency that is not backed with anything of tangible value (like gold). The supply of fiat currency is typically managed by a country’s central bank. Fiat currency is “legal tender” and can be used to pay for goods and services and to pay debts.  For example, the U.S. dollar is now a fiat currency because it is no longer backed by gold and silver.  Decades ago, you could exchange dollars for an equivalent amount of precious metals.  But since the early 1970s, this is no longer the case.  The dollar is now backed solely by the “full faith and credit” of the U.S.

As an aside, fiat currency is not “money’. The strict definition of money is that it must be backed by something tangible, like gold and silver. A gold or silver coin is money (like pre-1964 U.S. dimes and quarters). A U.S. silver certificate (pre-1964 U.S. dollar bill) was a paper form of money that could be exchanged for silver. Whereas the value of fiat currency is based only on intangibles like faith and confidence: faith that others will continue to accept it in payment of debts, and confidence that it will continue to have value in the future.

Reserve Currency. An important concept that affects cryptos is that of a “reserve currency.”  In traditional finance, a reserve currency is a currency that market participants need to settle international trades.  The U.S. dollar is the dominant reserve currency of the world. For example, consider a company in France that sells rice in Europe that is produced in Thailand. To pay for the rice, the French company must convert the Euros it receives for selling the rice into U.S. Dollars to pay the Thai rice producer, who, in turn, must convert those U.S. Dollars received into Thai Baht to pay its expenses locally. 

Since WWII, the U.S. Dollar has been the dominant global reserve currency because it has been relatively strong and stable, and its use simplifies transactions. Instead of the Thai rice producer accepting currencies from dozens of different countries, and dealing with various amounts of exchange-rate risk, it is simpler and generally less risky to settle all international deals in U.S. Dollars.

How does this relate to cryptos? In the crypto universe, Bitcoin (BTC) is the main reserve currency.  It isn’t easy to execute direct exchanges between various altcoins (cryptocurrencies other than Bitcoin), but much easier to use Bitcoin as the medium of exchange for altcoins.

Note – Ether (ETH), the token for Ethereum, is another reserve currency, and it is important for exchanging tokens.

Fiat-to-Crypto Exchanges

The first step in trading crypto is to convert your fiat currency into Bitcoin or Ether.  Fiat-to-crypto exchanges allow you to deposit fiat currency and convert it to Bitcoin and a few other cryptos. This is the main step if you intend to trade only Bitcoin.  You can use a Fiat-to-Crypto exchange to trade easily in and out of Bitcoin back into your fiat currency of choice. But if you want to trade most altcoins or tokens, you will need to exchange your fiat currency for Bitcoin or Ether, and then transfer your Bitcoin or Ether to the second type of exchange, a Crypto-to-Crypto Exchange (see below), to exchange your Bitcoin for altcoins or your Ether for other tokens.

Note that some traditional fiat-to-currency exchanges are now handling the exchange of fiat currency into some of the more liquid and popular altcoins. While Bitcoin and Ether are still necessary to exchange for most altcoins and tokens, more and more altcoins can be exchanged directly with fiat currencies.

Two popular, stable and regulated fiat-to-crypto exchanges are Gemini and Coinbase.  We mainly use Coinbase because years ago, when we first opened an account, we found their identification procedures easier to navigate, and we have been satisfied with their service since then.

In the early years with Coinbase, you were limited to exchanging just a few fiat currencies into only three cryptos: Bitcoin, Ether, and Litecoin.  Now, you can exchange several fiat currencies directly into many cryptos, and you can convert some cryptos directly into other cryptos.

There’s no need for us to detail the steps and procedure here for opening an account at Coinbase.  It’s quite straightforward as they offer a lot of user-friendly information on their website. 

The main things to know are that you will need to undergo their know-your-customer (KYC) and anti-money-laundering (AML) process. It will be similar to the KYC and AML processes you encounter with banks and brokerages.  Submitting your identification and proof of address is part of the account opening process.  Once you establish an account, you will be able to link a bank account (ACH transfer) or debit card to fund your Coinbase account with fiat currency, or you can fund it by wire transfer.   Buying, selling, and converting cryptos is quite easy to do with their user-friendly trading interface.

A screenshot from the Coinbase website shows its streamlined interface and portfolio tracking tool on both a computer screen and a mobile phone.

Crypto-to-Crypto Exchanges

You’ll need to use a crypto-to-crypto exchange to access the thousands of crypto assets not available through fiat-to-crypto exchanges. This is where you would use Bitcoin or Ether to exchange into other cryptos. The primary way to fund your account is to transfer Bitcoin or Ether from your account at a fiat-to-crypto exchange.

There are several worthwhile crypto-to-crypto exchanges.  One that we use is Binance, and it will serve well as an example.

Transferring Bitcoin

Please note that it is imperative to verify the address when you are transferring Bitcoin or any crypto asset.

When transferring, the exchange where you intend to transfer the Bitcoin will give you a choice of either depositing or receiving Bitcoin.  Using Binance as an example, you would choose “Deposit” then you are shown a window with a choice of networks to use (with different transfer fees involved), and a choice to copy a Bitcoin address (public key) or a QR code.  In this screen shot the Bitcoin address is shown with button to click to copy the address. 

You would then proceed to the exchange where you want to deposit Bitcoin, and would paste the address you copied into its “Send” or “Transfer” instruction window.

Make doubly sure that the address you are pasting is the correct address for the destination you intend for the Bitcoin to go – if you send it to the wrong address it is an irreversible transaction. You have lost the Bitcoin you were intending to transfer!

As we stated earlier, the lines are now blurring between fiat-to-crypto exchanges and crypto-to-crypto exchanges.  Binance has introduced what they call the “Binance Fiat Gateway”, allowing the use of fiat currency to purchase several cryptos, in addition to Bitcoin, via linked credit or debit cards and third party payment alternatives.

The Binance platform provides many ways to trade cryptos.  The first is their “Basic” template that offers a simple way to exchange one crypto for another.  Here’s a screenshot of the template for exchanging Bitcoin into Dash.

Another is their “Classic” interface that shows the current value of a wide variety of trading “pairs.” (A “pair” is a quotation of two different cryptos, with the value of one crypto quoted in terms of the other), along with some basic technical analysis tools, and the ability to trade the crypto pair.  Here’s a screenshot showing the MCO/Bitcoin pair.

They also have a Markets page that shows current values for a variety of pairs.  Shown in this screenshot is a listing of pairs involving Bitcoin.

To get started with an exchange, you will need to open an account, and that will include a similar KYC and AML process to those of fiat-to-crypto exchanges.  Once you’ve established an account, you’ll need to transfer some Bitcoin that you purchased through a fiat-to-currency exchange. Or, in the case of Binance, you can now convert many fiat currencies directly into several cryptos, which will then allow conversion of those cryptos into other cryptos as desired. 

Binance now provides wallets, as well as the Binance Academy, which offers in-depth material on cryptos.

Which Crypto Exchange Should You Choose?

There is no single answer to that question.  First, if you are just getting started, the best initial step is to open an account with a fiat-to-crypto exchange.  Gemini and Coinbase are excellent choices, to name a couple.  And if you’re mainly interested in trading in and out of Bitcoin, this will be all you’ll need.

If you choose to trade cryptos that are not available on the fiat-to-currency exchanges, you’ll need to open an account on a crypto-to-crypto exchange such as Binance.  Other popular crypto-to-crypto exchanges with similar features are Bittrex (https://global.bittrex.com/), Kraken (https://www.kraken.com/) and Kucoin (https://www.kucoin.com/). 

The lines are blurring between fiat-to-crypto exchanges and crypto-to-crypto exchanges, with crypto-to-crypto exchanges starting to enable the exchange of some fiat currencies to cryptos.  You might find an account with a crypto-to-crypto exchange sufficient for all of your trading needs.

Remember that exchanges are not the best place to store your cryptos.  They are convenient but not as secure as various types of cold wallets (See User Guide: Storing Your Cryptos).  If you have a large amount of crypto, you could keep much of it in a cold wallet, and keep smaller amounts for immediate trading in your exchange account.

Note: other than being account holders, we have no connection with either Coinbase or Binance. We receive no compensation or any other benefit from these organizations.  We don’t recommend them over their competitors.  We have featured them based solely on personal experience and familiarity with their platforms.