In the simplest of words, Bitcoin exchanges are basically digital marketplaces where traders can buy and sell Bitcoins among each other
The most basic need for Bitcoin exchanges is that not everyone can mine for cryptocurrencies. It requires a heavy amount of investment and is still risky depending on how well the markets perform. However, with the boom in the values of Bitcoins as well as the Altcoins, a large number of people want to invest into Bitcoins. Exchanges are the best platform to get Bitcoins without having to actually mine for them.
To understand how Bitcoin Exchanges, or any cryptocurrency exchange for that matter functions, simply think of it as a real life stock exchange. Almost all the properties of trading in a stock market apply to trading in a Crytpocurrency exchange. This includes the likes of setting up market orders and limit orders. We will look at both these terms in detail.
The two kinds of people on Bitcoin exchanges are Buyers and Sellers. Buyers are people who are looking forward to buy Bitcoins from Sellers, who are looking forward to sell them. Again, similar to stock markets in real life, there’s a mix of bulls and bears here - i.e. users who buy when stocks rise and users who buy when stocks fall. Similarly with the buyers, some users like to sell when the markets are at a high to ensure maximum profits, while there are others who want to sell when the prices are falling and they’re still in profit to ensure they don’t make any losses. Essentially, this is what keeps the exchanges balanced.
Market Orders: Basically, in case of market orders, a trader can buy or sell Bitcoins immediately based on the current best available price. This is for the users who need to make or sell off investments on an immediate basis.
Practically speaking, if a user places a market order of buying 5 Bitcoins at a Bitcoin Exchange, and there are three traders offering bitcoins for $4500 per bitcoin, $4400 per bitcoin and $4300 per bitcoin, the buyer would automatically have his order filled with the seller who is selling at $4300 per Bitcoin. In case the buyer wants 10 BTC and the seller who is offering Bitcoins at $4300 has only 5 Bitcoins, the other 5 would automatically be fulfilled by the seller who is selling them at $4400.
Limit Orders: In a real-life stock exchange setting, a limit order is basically set buy a buyer who can wait for a while which ensures he gets stocks at a desirable price. However sometimes the wait can be really long depending on the amount.
For instance, if a buyer wants to buy Bitcoins at $4000 and the current market average is $4500/BTC, it might take him a while to find a trader who is willing to offer Bitcoins at that price point. However, if there is a seller who lists his Bitcoins at $4000/BTC or lesser, the order would be fulfilled. There’s no guarantee if the order will ever be fulfilled unless there’s a seller willing to sell at that price or lower. Till there’s a seller who finally meets the buyer’s demand price, the order is listed in the Exchange’s order book.
Basically, Bitcoin Exchanges categorize the types of buyers in two different categories; Makers and Takers. Takers are those who takes an order at the given market rate because he needs it immediately. Makers are those who wait for the sellers to ultimately reach the price (or lower) that they are placing their order at.
Bitcoin Exchanges charge a transaction fee. This applies to both, the buyer as well as the seller in most cases. There are some exchanges which do not charge the buyer. The transaction fees varies in every exchange. Poloniex has a transaction fees of 0-0.25% while Paxful charges 1% to the seller and nothing to the buyer. It depends from exchange to exchange. The percentage of fees depends on the volume of transaction. This happens at the time of the trade and not during the deposit or withdrawal.
While transaction fees are the main charge when it comes to trading Bitcoins on exchanges, there are other charges too.
Transfer charges: Basically, the Exchange acts as the platform between the buyer and the seller. The buyer pays to the exchange from where the seller gets the money. It acts as an escrow agent of sorts which ensures there is no foul play. Every time you deposit money to the exchange, or withdraw from it, you will be charged a small amount.
Currency Conversion Fees: One of the things that you need to ensure before you finalize on a Bitcoin exchange is the locality of it. Local exchanges are better because there’s no currency conversion fees involved. If you’re using an exchange that does not support your currency you’d be charged a currency conversion fee as well.
Every Bitcoin Exchange offers a wide variety of payment methods. Most popular exchanges allow the buyers to pay via PayPal, Bank Wires, Bank Drafts, Credit Cards and Debit Cards, Money Orders as well as Gift Cards. These methods of payments vary between exchange to exchange.
Those who sell Bitcoins can withdraw via a number of options such as PayPal, bank transfer, cash delivery, bank wire, checks or even via credit card transfers. Again, these withdrawal methods vary between exchange to exchange.
Also Read: How to buy bitcoins from Zebpay
Now that you know what Cryptocurrency exchanges are and how they function, let us look at the types of exchanges:
Exchanges that let you trade in Fiat Currency
Exchanges that let you trade only in Coins
We will take a detailed look at both of these types of Cryptocurrency exchanges in our comparison of different cryptocurrency exchanges.
Finally, to conclude this chapter on Bitcoin Exchanges, we would like to clarify one common confusion - Bitcoin Exchanges are NOT Bitcoin wallets. Bitcoin wallets are where you store your Bitcoins and make secure transactions using a secure key. Bitcoin Exchanges are places where you can trade between different cryptocurrencies or sell them off for fiat currencies.