Blockchains are increasingly being upgraded with more advanced technologies, but this also brings the gap between blockchains further and further because of differences in compatibility. Wrapped tokens are the most classic mechanism created to solve the above problems. So what is Wrapped token and is it really safe for users?
What is Wrapped Token?
Wrapped token is a token version representing an asset such as BTC on another blockchain, its value will be directly pegged to the original asset and usually redeemable at a 1:1 ratio at any time. For example, a Wrapped Bitcoin (WBTC) is an ERC-20 token on the Ethereum blockchain that represents a Bitcoin on the Bitcoin blockchain.
The asset wrapping process is usually done through a special exchange with “wrap” and “unwrap” functions. Users need to deposit the native asset to the exchange and then receive a corresponding amount of that token on the blockchain they want to use.
We can also call wrapped a type of stablecoin when it is pegged to another volatile asset like USDT or USDC is pegged to the USD. Wrapped tokens’ anchor assets are often native tokens of the underlying blockchain.
Wrapped Token’s Working Mechanism
Basically, the working mechanism of wrapped tokens is not too complicated, it can even be said to be easy to understand with the following wBTC example:
- Step 1: Users transfer BTC to the special wallet of the wBTC issuance platform.
- Step 2: The platform will lock the amount of BTC that users send back.
- Step 3: A corresponding amount of wBTC will be minted and paid to users on the destination blockchain.
- Step 4: If you want to get back the original amount of BTC, users only need to burn the original amount of wBTC received.
What is the Importance of Wrapped Token
Expand usability
Early blockchains like BTC often cannot integrate smart contracts, or if they can, the cost for interactive transactions with smart contracts is huge.
Therefore, the birth of wrapped tokens has solved the problem of obsolescence of early blockchains, bringing native tokens to large ecosystems like Ethereum, where there is inherently too much potential for any token to be used. .
Transaction fees or in general, the cost users have to pay to use wrapped tokens on new generation blockchains is much cheaper.
Improve liquidity
Native tokens are typically only traded on centralized exchanges or through OTC exchanges, so they bypass the liquidity that reached hundreds of billions of dollars at the peak of the DeFi market. and wrapped token solved that problem.
Source of profit from yield farming
Stableswap or yield farming platforms always want to make liquidity on their platforms larger and larger, so the rewards for liquidity providers will be not small when native tokens always have a large number of users.
Risks of Wrapped Tokens
Lack of concentration
The major wrapped token platforms today all operate in a fairly centralized manner when all user assets deposited into the platform will be managed by a certain organization, which loses the basic decentralization. version of the DeFi market.
Security risks
The security risk of wrapped token platforms is not small, it has been shown through the huge amount of assets stolen by hackers through attacks on these platforms.
Popular Wrapped Tokens
wBTC
wBTC stands for Wrapped Bitcoin, a cryptocurrency token with the same value as Bitcoin (BTC) created on the Ethereum (ETH) blockchain through the process of wrapping BTC into a special smart contract.
This process of wrapping BTC is done by requiring users to transfer BTC to a wallet address managed by a wBTC service provider and the provider will then issue the corresponding wBTC on the Ethereum blockchain and send it to them. user. Conversely, when users want to exchange wBTC back to BTC, they will have to send wBTC to the provider’s e-wallet address and receive the corresponding BTC back.
wBTC is used in many applications on the Ethereum blockchain, including in transactions, payments, investments, and interactions with other smart contracts. wBTC also allows users to enjoy the benefits of the Ethereum blockchain, such as faster processing speeds and lower transaction costs compared to Bitcoin.
wETH
wETH, also known as Wrapped Ether, is a token with value equal to the price of Ethereum, created to bring ETH to all other blockchains by wrapping ETH into a smart contract of 0xLabs. wETH is used on many different blockchains as the asset of major liquidity pairs from Layer 2, EVM chains or even non-EVM blockchains like Solana.
Summary
Above is what you need to know to understand what wrapped tokens are. Hopefully, through this article, Weakhand has brought everyone useful information to serve their research process.
