Have you ever heard about wrapped tokens? If you are inclined towards blockchain and cryptocurrency, you must have come across this term. In recent times, the Blockchain market has been booming and is likely to reach USD 469.49 billion by the end of 2030.
However, what exactly is token wrapping? In simple terms, wrapping a token refers to the process of swapping one token for another in an equal amount. Read this article to explore more details about wrapped tokens.
Let’s dive in!
Table of Contents
What are Wrapped Tokens?
You may have an idea that blockchains like Ethereum and Bitcoin are separate. So, they cannot communicate with each other easily. In other words, you cannot use Bitcoin directly on the Ethereum blockchain.
Ever wondered why? Well, it is because the Bitcoin blockchain is completely unaware of what is happening with the Ethereum blockchain. So, cross-chain use seems impossible.
However, Token Wrapping can serve as an ideal solution to this problem. Wrapped tokens are the tokens that make it possible to transfer the value of a native asset from one blockchain to another. It allows you to move assets between the blockchains efficiently and use them in the crypto ecosystem.
Pros of Wrapped Tokens
Are you wondering about the benefits of wrapped tokens? If yes, consider the perks below.
Liquidity
One of the prominent benefits of using wrapped tokens is liquidity. It allows the use of tokens in various ways on non-native blockchains and increases capital efficiency. Moreover, it enables investors to easily sell and buy assets, thereby boosting Blockchain marketing techniques.
Interoperability
The wrapping of tokens makes it possible to transact cryptocurrencies on non-native blockchains. It proves to be less expensive and faster in comparison to native blockchains. Moreover, they can offer easy access to specific applications.
Increases efficiency
Token wrapping facilitates more efficient and fast settlement as well as the transfer of assets. As a result, it can significantly lower the chance of potential errors or the risk of fraud. Moreover, it can even reduce the need for intermediaries. Ultimately, it helps make financial transactions quicker and ensures optimum convenience for the users.
Lowers costs
As discussed above, using the wrapped tokens can reduce the need for intermediaries. As a result, it can effectively bring down the total cost of financial transactions.
Improves security
Security is a top priority for users when it comes to financial transactions. So, if you are leveraging wrapped tokens, you need not worry about security. As the wrapped tokens involve the use of smart contracts, they offer higher security in comparison to other financial instruments.
Cons of Using Wrapped Tokens
No doubt, wrapped tokens provide several benefits to users. However, there are certain drawbacks too. Some of the drawbacks of using wrapped tokens are listed below.
Inequivalent value
Theoretically, the wrapped tokens must have the same value as the original cryptocurrency. However, it does not always work that way. Especially during high volatility, the wrapped token value is likely to be lower than the original crypto coin.
Fees
No doubt, the use of wrapping tokens allows you to save more by lowering transaction fees. However, the minting process can trigger additional fees.
How are Wrapped Tokens Developed?
Now that you have a basic idea of token wrapping, you must be wondering how these tokens are developed. Well, the algorithm is quite simple to understand. To wrap a token, you will need a smart contract and a set process to ensure interoperability. The tokens are developed and even destroyed through a process known as minting or burning.
The custodians in charge will mint the wrapped tokens, such as WBTC (Wrapped Bitcoin). After the underlying BTC (Bitcoin) is locked away, it is possible to mint an equivalent amount of WBTC. This process is referred to as the wrapping of tokens.
With the use of a smart contract, the underlying asset is wrapped in a digital vault. The newly wrapped asset is then minted for application on another blockchain. Today, Blockchain Applications have been the most preferred Finance Apps for startups wherein it has made it easy for users to have effective financial transactions.
Key Components of Wrapped Tokens
The different components of wrapped tokens are listed below:-
An underlying asset
For token wrapping, you will first require an underlying asset. It can be a traditional asset, a cryptocurrency, or even a non-fungible token (NFT). This underlying asset will provide the essential backing and value for the wrapped token.
Smart Contracts
To wrap tokens, you will require smart contracts. They are self-executing contracts that have the terms of the agreement directly written into code. Smart contracts play an important role in specifying the standards and rules for the wrapped tokens. From how to create the token to how to transfer it, smart contracts include everything.
Blockchain platform
Blockchain platforms like Binance Smart Chain and Ethereum are essential for the creation of wrapped tokens. However, the choice of platform will depend on the capabilities and features of the wrapped token.
Token Standard
Token wrapping follows a specific token standard. It includes the standards and rules to be followed while performing the token wrapping process.
Digital asset exchange
It is possible to buy and sell wrapped tokens on digital asset exchanges. Digital asset exchanges are the platforms that find use for liquidity and trading. The platform you use can have a significant impact on the liquidity and accessibility of the token.
Commonly Wrapped Tokens
There are several tokens that can be wrapped. Some of the most commonly wrapped tokens include the following:
- Wrapped Ethereum
- Wrapped Bitcoin
- Wrapped Gold
- Wrapped XRP
- Wrapped Stablecoins
Conclusion
By now, you must have a complete idea about token wrapping and how to develop it. While it may seem like a complex concept, it actually isn’t. Wrapped tokens have a significant impact on interoperability in the world of blockchain.
Token wrapping makes it possible to use different blockchain assets in a single crypto ecosystem. Moreover, it enhances the convenience of users and allows faster financial transactions. Wrapped tokens are likely to shape the future of the crypto industry and provide users with several appealing benefits.
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