The Non Technical Guide to Atomic Swaps

Last updated: 3/11/19

Atomic Swaps are the next step in making cryptocurrencies more decntralized. In this post I’ll explain exactly what Atomic Swaps are, how they work and why they are so important.

Post Summary

Atomic Swaps allow complete strangers to safely exchange between different cryptocurrencies without the need for a 3rd party (i.e. an exchange). The technology is still in its early days but once matured will allow free convertibility between cryptocurrencies.

If you want a more detailed explanation about Atomic Swaps keep on reading, here’s what I’ll cover:

  1. The problem – Crypto to crypto switching costs
  2. The solution – Atomic Swaps
  3. How Atomic Swaps Work (simple)
  4. How Atomic Swaps Work (technical)
  5. Atomic Swaps Limitations
  6. Why are Atomic Swaps Important?
  7. Conclusion

Don’t like to read? Watch our video guide instead

 


1. The problem – Crypto to Crypto Switching Costs

If you ever tried changing between two different cryptocurrencies you’ve probably noticed the high switching costs it involves. You might be thinking it’s not that hard, but let’s think about it for a moment. If, for example,  you want to trade Bitcoins for Litecoins you’ll need to do several things.

First you’ll need to find an exchange that supplies this currency pair. Once you found such an exchange, you’ll need to sign up to it and go through its KYC process to verify your identity. Assuming you passed the KYC process, you can then deposit your Bitcoins into the exchange, basically forcing you to give up control over your coins.

Once the Bitcoins are on the exchange, you can then trade the coins – for a transaction fee. Finally, once the trade is complete you can withdraw the Litecoins from the exchange which will include additional fees and waiting time until the coins arrive in your wallet.

As you can imagine this situation is not optimal. In a truly decentralized world, users will be able to switch crypto to crypto directly without any third party, instantly and feeless. That’s exactly where Atomic Swaps come in.


2. The solution – Atomic Swaps

An Atomic Swap allows users to trade two cryptocurrencies directly, without the need for an intermediary or trust. In my particular case, it will allow me to exchange Bitcoins for Litecoins with complete strangers directly from my wallet.

The term Atomic comes from computer science. It means that either the operation is conducted as planned or isn’t conducted at all. With an Atomic Swap I will either exchange my coins with the other party exactly as we agreed, or it won’t happen at all. Let me explain.

A non Atomic swap would be me sending Bitcoins to a stranger, and then hoping the stranger will send me back Litecoins. This leaves the door open for fraud or theft since my counterparty can just walk away with my money.

In an Atomic swap on the other hand, either both of us get the money or none of us do. There’s no room for human error or manipulation. It’s important to note that Atomic Swaps don’t work with fiat currencies, only with cryptocurrencies.


3. How Atomic Swaps – The Simple Explanation

Since this is a non technical post I’m going to use a simple analogy to explain the process. Let’s say you and I want to participate in an Atomic Swap of Bitcoins to Litecoins. As the initiator of this swap, I will take my Bitcoins, put them in a see through box and lock them up. The lock can only be opened with a long secret combination that I have written down and kept hidden inside my pocket.

I then send this box over so you can inspect and see it has the right amount of Bitcoins for the swap. Once you verify the amount is correct you take your Litecoins and put them in your own see through box. However, you use the same exact lock as I did on your box. Meaning you don’t know the combination to open this box.

So at the moment only I hold the combination that opens the two boxes.

You then send your box of Litecoins over to me and I check the amount as well. Once I see everything is in order I pull out the secret combination out of my pocket to open the box of Litecoins. The moment I do that you’re able to see the combination as well and use it to open the box of Bitcoins that was sent to you.

We then each get our funds and the Atomic Swap is complete.

If this all got too confusing make sure to watch the video at the beginning of this post for a demonstration of how this actually looks like.


4. How Atomic Swaps – The Technical Explanation

In real life, the boxes of funds are actually a smart contract which states that if the transaction doesn’t occur as expected within a specific time frame, each party will get their money back.

To get a bit more technical, these smart contracts are called Hashed Time Lock Contracts or HTLC. The lock on the box is called a hash and the combination to open the lock is called a preimage.

Putting this all together, in an atomic swap, funds are locked inside smart contracts that can be publicly inspected on the blockchain. The funds can only be released with a preimage, a private key of sorts, that matches the hash of these contracts. If at any point a party any party wants to cancel the swap they can just walk away and the funds will automatically be returned to their original owner.


5. Atomic Swaps Limitation

Atomic Swap technology is just starting out and it still has several limitations. For example, both currencies that are being exchanged must have the same hash algorithm and both currencies should support specific types of smart contracts.

At the moment you will also need certain programming skills to use atomic swaps. However, in the future it’s highly probable that cryptocurrency wallets will offer this technology built in to their software.


6. Why are Atomic Swaps Important?

By now I bet you already understand the impact this might have on cryptocurrency users. Just imagine the opportunities this can open up once you have the ability to morph currencies instantly. Merchants can accept any cryptocurrency that supports this technology since they can just instantly exchange it to any cryptocurrency they like. We can set up trustless exchanges where you don’t have to give away control of your funds in order to trade with other people.

As an individual, you can use whatever coin you desire depending on its capabilities. For example, if you want to use a more private coin you can instantly switch to Monero, or perhaps you’re looking for a better store of value, or for a coin with the lowest transaction fees.

Add the Lightning network on top of this and you basically get the ability to move any type and any amount of cryptocurrency with zero fees, instantly. Pretty neat, right?


7. Conclusion

So, how far are we from being able to do all that? Well up until today only few successful tests have been done with this technology. But as cryptocurrencies become more mainstream, and market competition between wallet providers and cryptocurrencies increase, new solutions like Atomic Swaps will come to fruition.

Hopefully by now you understand what Atomic Swaps are  – A way for individuals to exchange different cryptocurrencies directly without the need for trust or a third party.

You may still have some questions. If so, just leave them in the comment section below.

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Paul
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Paul

Thank you for explaining the concepts behind an Atomic Swap in a simple, clear and concise way for the average Cryptocurrency newbie to understand. Everyone’s hard work over there at 99 Bitcoins is much appreciated.

I look forward to the weekly updates.

Kindest regards,

Paul.

Dave
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Dave

Maybe the already in use Interledger Protocol / Hyperledger Quilt will make Atomic Swaps unnecessary. Functioning Blockchain interoperability via widely accepted yet mostly unheard of ILP seems altogether more progressive than some crude “exchange” mechanism – possibly?