What Are Wrapped Tokens? Why Markets Need Them

What Are Wrapped Tokens: Trying to trade bitcoin on the Ethereum blockchain is like trying to run a PC game on a Mac – you’ll need to install specific software.

Said, a wrapped token is a token that symbolizes a cryptocurrency from another blockchain or token standard while maintaining the same value as the original coin. Unlike the initial cryptocurrency, the wrapped token can be utilized on non-native blockchains and later redeemed for the actual coin.

Wrapped tokens provide several advantages, including increasing interoperability between incompatible cryptocurrencies and blockchains, allowing for things like bitcoin lending and ether borrowing on DeFi systems. It increases the value of crypto assets by increasing liquidity for decentralized services.

Wrapped Tokens

Wrapped Bitcoin (wBTC), an ERC-20 variant of bitcoin, is the most common wrapped token.

The cryptocurrency has a market valuation of approximately $10 billion as of February 1, 2022, and is safeguarded by crypto custodian BitGo. Wrapped bitcoin controls 81 percent of the covered token market; the next most valuable token, renBTC, with a market worth of $672 million. BitGo, Kyber, and Ren founded WBTC in 2019.

Wrapped bitcoin is helpful because it allows bitcoin investors to plug their asset – or, technically, a synthetic help with the same exposure to the price of bitcoin – into Ethereum’s decentralized finance (DeFi) protocols. It opens up the possibility of turning bitcoin into a yield-bearing asset, which may earn returns from things like Uniswap’s or Yearn Finance’s liquidity pools, for example.

You can get wrapped bitcoin by finding a wBTC merchant like DeversiFi, Kyber, or Ren and wrapping your own BTC. The merchant delivers your bitcoin to a custodian, who mints new bitcoin and keeps your deposited bitcoin at a 1:1 ratio. When you want to exchange your wBTC for bitcoin, the merchant will send a burning request to the custodian, who will then burn the wBTC and give you your bitcoin back.

This minting and burning wBTC ensures that every wBTC in circulation is backed by precisely one bitcoin. It works similarly to how pegged-value stablecoins do.

Alternatively, you can acquire wBTC on centralized or decentralized exchanges in exchange for other cryptocurrencies.

Because it puts a degree of centralization into the mix, WBTC isn’t a perfect solution. You’re entrusting your money to BitGo if you possess wrapped bitcoin.

Wrapped Ethereum

Wrapped bitcoin isn’t the only token that can be beneficial. Wrapped ether (wETH), introduced by 0x labs in 2017, is another well-known wrapped token.

Unlike wBTC, which is solely dedicated to porting bitcoin to non-native blockchains (currently Ethereum and Tron), wETH allows users to trade synthetic ether directly on the Ethereum blockchain.

It is because wETH turns ether (ETH) into an ERC-20 token, a tradable version of ETH that adheres to decentralized financial standards. The Ethereum native token, ETH, does not follow the ERC-20 standard.

Token standards can be considered a collection of criteria that a token must adhere to to be compatible with other Ethereum-based services and platforms. Different token measures, such as non-fungible tokens (NFTs) and fungible tokens, are used to produce different subsets of assets compatible with specific services.

Wrapped ETH gives ETH holders access to a whole new realm of decentralized finance. They can trade directly with other Ethereum-based altcoins and donate to DeFi protocols via wETH.

Unlike wBTC, ETH does not require any “wrapping.” You can get it by exchanging ETH for wETH via a smart contract or a digital wallet like MetaMask. They wrapped ether’s developers believe that the token will be phased away after Ethereum’s codebase is upgraded to bring it in line with the ERC-20 token standard or if the ERC-20 standard is revised.

Bridges (What Are Wrapped Tokens)

Products like wBTC aren’t the only technique to move assets between blockchains. Bridges to Polygon, Arbitrum, and Optimism allow you can transfer assets from Ethereum to those networks and trade at cheaper fees and faster speeds. For example, Osmosis’ Gravity Bridge will enable you to trade ERC-20 tokens on its Cosmos-based decentralized market. At the same time, Tezos’ Wrap Protocol Bridge allows you to move assets between Ethereum and other blockchains.

Large bridges like the Wormhole bridge support many distinct blockchains. Ethereum, Solana, Terra, Binance Smart Chain, and Polygon, for example, are all supported by Wormhole. The bridge also supports NFTs so that a Solana NFT may be ported to Ethereum. However, the Wormhole bridge was abused for 120,000 wETH (worth approximately $326 million at the time) on February 2, 2022, indicating a severe weakness.

Traders have utilized the protocol to convert old Bitcoin NFTs issued on Counterparty as early as 2014 into Ethereum-based NFTs, thanks to niche wrappers like Emblem Vault. The Ronin Bridge was explicitly created for the Axie Infinity NFT game.

According to a dashboard on Dune Analytics, Ethereum bridges hold $23.24 billion in assets. Polygon, Avalanche, and Fantom are the market leaders, with shares of 23 percent, 22 percent, and 18 percent, respectively. Around 25% of the assets in the bridges, or $6 billion, are kept in wETH, with the other 22%, or $5.2 billion, held in USDC, the US dollar stablecoin.

Bridges may soon rule the DeFi market; trading wrapped tokens in one place is more convenient than trading wrapped individual coins. However, the future of DeFi may make trading tokens across blockchains so frictionless that you won’t even notice you’re using a bridge or a wrapped pass. The end of “financial futures” awaits!