Onchain Trading Is Better Than Ever – But There Are Still a Few Challenges to Solve

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The advantages of onchain trading versus using a CEX are obvious: access to a greater range of assets, no custodial risk, and greater privacy. But the disadvantages are also clear to see: lower liquidity in many cases, fragmentation because the best opportunities lie across multiple chains and protocols, and UX which still lags behind the best centralized solutions.

Despite these downsides, the onchain trading experience is streets ahead of that available when DeFi broke through in 2020. The range and quality of assets is multiples greater, interface design has dramatically improved, and fiat onramps are now everywhere. That said, there are still a few challenges to solve before DEXs can meet and even exceed CEXs across key benchmarks. Let’s take a closer look at these obstacles and how DeFi developers are engineering solutions.

Liquidity

Liquidity is the big one since it has the greatest impact on the trading experience. Low liquidity results in onchain users losing money every time they execute a swap due to slippage and it also increases volatility, since pricing can change rapidly when large orders are executed, changing the composition of tokens in liquidity pools. The expansion of the multichain landscape has also fragmented liquidity, scattering it across multiple chains and DEXs.

Despite these challenges, onchain liquidity is significantly better than it once was and for popular pairs such as ETH and stablecoins can be deeper than that available on CEXs in some cases. This improvement in onchain liquidity is thanks to a number of innovations that have helped to “defragment” it. Aggregators, which combine liquidity from multiple DEXs into a single order, have helped in this regard.

Another major improvement has come courtesy of dedicated liquidity layers that can source liquidity from both cross-chain and centralized sources. Orbs has been one of the leading forces behind this trend, bringing CeFi-level execution to DeFi. This enhances the capabilities of both EVM and non-EVM smart contracts without the need to move liquidity onto a new chain. As a result, onchain traders can tap into deep liquidity without introducing custodial risk – even when it’s procured from centralized sources.

UI/UX

User experience is paramount when interacting with decentralized protocols. Given the need to connect a web3 wallet and interact with multiple protocols and interfaces, users must familiarize themselves with a host of different platforms, each with its design and peculiarities. While the learning curve for trading onchain is still steeper than that required for CEX trading, it’s much shallower than before thanks to a major investment in DeFi interface design.

In the last two years, DeFi protocols have focused on simplifying onboarding and reducing complexity to deliver a more intuitive experience that is much more welcoming to new users. Wallet design has improved significantly, aided by innovations such as seedless wallets that eliminate the need to create and store a 12-word seed phrase. Technology such as the ERC 4337 standard has also enabled account abstraction, allowing dapps to subsidize gas and enabling users to trade even if their wallet doesn’t hold the native network token.

Fiat Onramps

Back in the early days of DeFi, one of the only ways to get funds into a web3 wallet was by going through a CEX. Not only does this add an additional step, but it requires users to complete CEX verification and can be off-putting to beginners especially. Thanks to the introduction of better fiat onramps that are now deeply integrated into web3 wallets and DeFi protocols, this hop has been almost eliminated.

Most web3 wallets now have some sort of fiat onramp, enabling users to purchase crypto using debit card or bank transfer and begin trading instantly. Meanwhile, the rise of crypto banking apps such as Revolut and Wirex, which support instant fiat-crypto conversion, has enabled users to purchase a wide range of digital assets and then transfer them to a web3 wallet to start participating in DeFi. While there’s still work to be done in increasing the maximum amount that can be cashed out from non-custodial wallets, fiat connectivity is streets ahead of just a couple of years ago.

Perps and Options

One area in which CEXs have consistently held the upper hand over DeFi is when it comes to futures trading. This is primarily because trading leveraged futures markets demand low latency and support for advanced order types. It’s the sort of activity that CEXs are ideally suited to host, especially because they can enable cross-margin in which traders’ spot balances are used to provide collateral for their futures positions.

CEXs still account for the bulk of all futures volumes, but DeFi options and perps are now much closer in terms of user experience. This is thanks partially to protocols migrating to L2s where fees are lower and throughput is higher, and also due to better design that has made perps platforms such as GMX on Arbitrum a viable alternative to CEX trading. The number of markets that perps protocols such as dYdX can support has also increased significantly, allowing access to hundreds of digital assets. Improved onchain liquidation engines, meanwhile, ensure that positions which become under-collateralized don’t threaten the health of the entire protocol.

The Future of Onchain Trading

DeFi is steadily evolving to incorporate new technology, such as ZK proofs which enable private transactions – ideal for perps markets where institutions and pro traders have no desire to disclose stop losses or wallet balances. It also now encompasses a much broader range of assets than CEXs can offer, particularly in the field of tokenized RWAs which have grown into a multi-billion dollar sector.

Despite this progress, there’s still work to be done in improving the onchain trading experience, particularly in terms of liquidity and reducing fragmentation. But over the last four years, DeFi has shown itself to be the frontline of much of the innovation that is occurring throughout the cryptoconomy. Where there’s a will there’s a way, and as DeFi devs have consistently demonstrated, the will to engineer onchain solutions that can surpass CEXs while maintaining decentralization is unbounded.