To get your hands on some cryptocurrency, most will have to purchase it from an exchange. A cryptocurrency exchange is typically the best way to get coins. Users receive benefits, including liquidity, convenience, low transfer fees, and require no prior knowledge of a cryptocurrency wallet. Even with this host of benefits, an exchange may not be the best place to store large holdings. Rather than keep your coins on an exchange wallet, users are encouraged to transfer them to a private crypto wallet.
There are many reasons why storing tokens on exchange wallets can be dangerous. Six are listed below.
You don’t own the exchange wallet.
You can indeed store any coins or tokens that you buy on your exchange wallet. However, users don’t own that wallet. Exchange wallets are also known as “hot wallets” for trading or buying products. Wallets get this name for being an online wallet. The only downside is that if anything happens to your exchange, you don’t have control over your holdings since they aren’t technically in your custody.
At times a cryptocurrency exchange may be closed due to a lack of trader activity. If this happens, users will be unable to withdraw their currencies for a long period of time. Cryptopia, an exchange closed in New Zealand, still has users who have not received their funds.
An exchange may delist a coin.
Another concern is that the exchange may decide to delist a coin for many reasons, most of which aren’t clearly defined. Delisting often results from a cryptocurrency losing the majority of its value or the support of its community. If this happens, the exchange may indicate the currency is under the withdrawal limit, so users may not access them. Alternatively, the exchange may offer a transfer period to switch out these funds. If users fail to use it, they may lose their assets forever.
Hacking and other online fraud
Exchange hacks are relatively common, especially as the price of digital assets increases. Due to the immutability of the blockchain, if a hacker steals an asset, there is no getting it back. Additionally, other scammers have gotten creative and created fake exchanges. Users must be careful that the exchange they are using is legitimate and has a trustworthy reputation to avoid depositing coins into the arms of the hacker.
KYC compliance requires private data
Cryptocurrencies also have an advantage in that transactions can be conducted anonymously. KYC compliance procedures eliminate the benefit of anonymity common amongst cryptocurrencies. Other concerned parties have suggested that the exchange may freeze user accounts without warning, and users may be required to complete KYC compliance. These decisions can be made without warning, giving users no opportunity to work around them.
Exchanges may require unexpected maintenance.
Large and well-known exchanges and small niche platforms have one thing in common. They, at times, may go offline for technical improvements. Sometimes the technical team can resolve the problems quickly; other times, accounts may not be accessible for days or weeks. For those who trade hourly and daily, this may cause you to lose out on big gains.
Crypto exchanges are centralized, the exact opposite of cryptocurrencies.
Cryptocurrencies are built to be decentralized, not requiring a middleman to facilitate transactions. On the other hand, cryptocurrency exchanges require a centralized party or middle man to maintain them. Having a middleman runs contrary to the decentralized nature of cryptocurrencies. Currently, there are many unknowns around cryptocurrency, and at any time, an investigation could occur that may cause assets held on the exchange to become frozen. Owners of exchanges can say that assets will be safe, but they don’t necessarily have to guarantee this due to the nature of cryptocurrencies.
Consider what happened to the exchange BTC-E, a popular exchange that the FBI later seized after someone was found laundering funds through the platform. BTC-E’s operations were later moved to New Zealand and rebranded under the name WEX. During this time, some users lost access to their funds. Some were even left in the dark about their assets until the rebranding had been complete.
In conclusion, users are not encouraged to keep their cryptocurrencies on an exchange. Instead, they may choose to diversify their holdings across multiple exchanges to protect themselves from one exchange getting shut down. More highly recommended is for users to keep a small portion of cryptocurrency on an exchange for making payments or transfers and storing the rest in a private wallet.