Upon entering crypto’s DeFi market segment, you will immediately notice that almost all protocols offering decentralized exchange (DEX) services have the word ‘swap’ included in their name. This is not by pure coincidence. In fact, the primary mode of operation in decentralized finance for exchanging assets is done by swapping and not trading.
Knowing how to swap tokens is crucial for your DeFi journey as it creates the foundation for your later exploration of other financial instruments. We will define, explain, and demonstrate the functioning of token swaps in this article in order to further your understanding of the highly popular exchange method.
What is a token swap?
As the name implies, a token swap is a process during which investors swap their existing tokens for another kind. Own Ethereum? You can simply swap ETH tokens for AAVE and have the exchange executed within minutes.
But what is so special about token swaps, and how do they differ from standard trading? Token swapping is exclusively performed on a DeFi protocol, particularly a decentralized exchange. These exchanges are non-custodial (meaning that they do not require ownership of your assets to move funds) and rely on liquidity delivered by users through the means of yield farming or liquidity mining.
Since decentralization is involved, swapping tokens is entirely regulated by smart contracts. There is no need for input from the exchange, nor are there any human factors involved that can lead to errors (except for those already embedded into code).
But this is merely the first definition of token swaps. In a different context, a token swap is referred to as the process of moving tokens from one network to another. This is commonly done when developers move their project from the original blockchain to a newer one, usually for the purpose of improving the platform’s capabilities.
Are DEX token swaps better than CEX trading?
Why are token swaps so highly coveted? Are DEX token swaps better than CEX trading? Let us reach a conclusion by covering a practical example.
A Uniswap user wishes to exchange funds. He does so by logging into his digital MetaMask account and connecting with the DEX to request a token swap. After processing the request, Uniswap’s smart contracts pull tokens from the MetaMask wallet in exchange for the trader’s desired token.
The person in question did not have to:
Move funds to the exchange
Convert fiat into crypto beforehand
Moreover, since DEXs by design enforce no Know Your Customer (KYC) parameters, your identity is almost completely anonymous. There are also no limits as to how much fiat value one can swap during a single day, which is a stark contrast compared to centralized exchange (CEX) withdrawal and deposit limits.
There are, of course, disadvantages as well. The cons include:
Liability. In a decentralized environment, all actions and their consequences are delegated to the user. If a trader executes a trade by mistake or transfers assets to the wrong address, it is entirely their fault. There is no form of technical support that can escalate and resolve the issue, which is almost always found on CEXs.
Security. Non-custodial wallets are primarily used when executing token swaps. They are fully managed by the owner, and all problems arising during trading have been explicitly caused by him. If the investor does not protect his wallet well, he risks losing all funds.
Fees. DEXs rely on the use of Automated Market Makers (AMMs) to pull and push liquidity. AMMs are essentially smart contracts, and every action performed requires a respective smart contract that consumes gas fees provided by the user. Gas fees are exceptionally expensive compared to the standard taker/maker fees imposed by traditional order-book-styled CEXs.
How to swap tokens
No matter how alien the concept sounds, swapping tokens is rather simple. Initially, users must acknowledge themselves with the interface, but after completing a swap, trading on DEXs comes naturally.
In this guide to token swaps, we will use the Uniswap DEX and MetaMask web wallet as examples. Asset-wise, the guide covers converting ETH into USDT. Keep in mind that the process is executed the same way, no matter which tokens you choose.
If you want to swap as you read this guide, make sure that you have the following prerequisites:
A MetaMask wallet (alternatively a different web wallet)
ETH tokens (alternatively any other ERC-20 token)
Are you ready? Let us start with the first step.
1. Visit Uniswap
The official Uniswap website can be found at Uniswap.org, while the DEX itself is located at app.uniswap.org. Searching for Uniswap on Google will yield the same results but always make sure to check the links in order to confirm the website’s identity. Visiting a copycat website imitating Uniswap is not advisable as it can lead to losses.
2. Connect your MetaMask wallet
After entering the aforementioned website link, locate the ‘Connect to a wallet’ button found in the top right corner and select MetaMask. Doing so will open a window on the app which asks that you confirm the connection between Uniswap and MetaMask.
3. Select tokens to swap
At the main window at the very center, you are free to choose from a list of tokens. The first option depicts the token you own, while the second option represents the token you wish to receive. In this case, we will select ETH in the top field and USDT in the bottom field.
4. Execute the order
You are almost there. Input the sum that you wish to swap and check the estimated amount expected to be received. If you are happy with the results, continue by clicking the ‘Swap’ button.
Once again, a MetaMask pop-up window will appear. Here you can adjust gas fees and gas priorities, but in general, you can advance further without editing these parameters. If the fees suit you, click confirm to go through with the token swap.
That’s it! The transaction will be confirmed within the span of minutes, depending on how much gas you have spent. If the transaction is a success, you will find USDT in your wallet.
As you had the chance to see, swapping tokens is the easiest format for trading cryptocurrencies. The process is decentralized and carries with itself many advantages, and it is also suitable for beginners. Moreover, DEXs that provide such services require no complicated account registrations, identity verifications, and other measures.
Are token swaps perfect? Of course not. But despite their (at times) enormous fees, they are extremely practical and highly liquid.