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Unraveling Wrapped Crypto: A Deep Dive into Tokenized Assets
Wrapped Crypto Explained: Understanding Tokenized Assets photo
By: Natali
27.09.2023
Crypto

Wrapped Crypto Explained: Understanding Tokenized Assets

Table of Contents

Interoperability is the key element to increasing blockchain mass adoption. However, most chains are currently siloed: they don’t engage directly. This limits the DeFi apps and makes it difficult to use assets from multiple chains together.

It’s almost impossible to use classic Bitcoin on the Ethereum network. But modern developers find out the trick allowing you to do so.

Wrapped crypto is a remedy to this issue. These tokens constitute capital from one chain to another. For example, Wrapped Bitcoin (WBTC) is a portrayal of BTC on the ETH chain.

There are so many usage cases and possible benefits from this approach, that it is worth a whole article. That’s why I write it for you, so you can understand what wrapped are wrapped tokens and how they benefit you. Yes, you, my dear reader! Whether you investor, a dApp representative, or a curious user.

The Basics: What is Wrapped Token?

Wrapped (cross-chain) tokens stand for the value of different currencies on another chain. The most known illustrations are WBTC (Bitcoin on Ethereum), WMATIC (Polygon on Ethereum), and aBTC (Bitcoin on Avalanche).

You can get a wrapped token by locking up the initial asset in a smart contract and then asking for a new token on the desired chain. Their prices are tied to the master asset value. You can buy it back by burning new tokens out.

Cross-chain tokens unlock interoperability, utility, and liquidity network opportunities. With them, you can transfer value between different chains. It means you can use your favorite token in your favorite dApp even if they aren’t supposed to work together initially.

The Need for Wrapped Crypto

One of the main reasons for developing cross-chain tokens was interoperability problems. And wrapped crypto slowly yet surely solves that problem. It unlocks the ability of chains to interact with each other simultaneously.

It’s a challenging process. Blockchains are built on different technical architectures, so it’s difficult to develop cross-chain solutions. They are designed to be secure and immutable. It’s complex to connect them.

However, even under these circumstances, wrapped assets unlock new interoperability opportunities. They are used in bridges allowing users to relocate their funds between different chains. These tokens can be used to develop trustless bridges that work without any third-party assistance. A wrap token can perform atomic swaps and cross-chain lending and borrowing.

How Wrapped Tokens Work

You can create cross-chain assets by minting them and release the initial token by burning the edited asset. In minting, you send the original asset to a custodian, who locks it in a smart contract and produces a new asset on the desired chain.

If you need wBTC, you send a BTC to a keeper. They lock the BTC and produce the same amount of WBTC on the ETH chain. Once your asset is coinaged, the caretaker sends it to you.

To burn the new token, send it back to the custodian. They will then destroy this token and release the initial asset. If you need to burn WBTC, send it to the caretaker and wait until they get the master BTC token.

The coining and burning process and its timing may vary depending on the token, network, and chosen keeper. Pick a proven custodian with a good reputation and track record. If you don’t want to spend your time on it, use proven crypto bridge services.

The Most Popular Wrapped Tokens

As I said before, these are wrapped Bitcoin (WBTC) and cross-chain Polygon (WMATIC).

WBTC is the most common cross-chain token, with a $5 Billion capitalization. It is used to bring Bitcoin liquidity to the ETH chain. With it, you can use Bitcoin on Ethereum’s native dApps, including gaming and landing services.

Wrapped Polygon (WMATIC) is another popular choice. Polygon is a layer-2 Ethereum solution offering faster transactions. You can use WMATIC on Polygon dApps like Quickswap and SushiSwap. With WMATIC you can access Polygon advantages while using Ethereum apps.

Benefits of Using Wrapped Tokens

These tokens increase network liquidity and accessibility. Also, they are boosting the overall interoperability of both chains. You can use wrapped tokens on any dApp that supports the desired chain. It includes even exchanging completely different tokens.

Improved interoperability is another huge benefit. You can transfer value between different chains without visiting a centralized exchange. It’s a great option for those who protect their anonymity.

Wrapped tokens often have faster processing speed and lower transaction fees since they use the chain’s distinctive features instead of nature’s. For instance, WBTC transactions are far cheaper and faster than native BTC transactions.

What Is Wrapped Bitcoin (WBTC)?

Previously I told you about cross-chain Bitcoin as the essential part of the blockchain ecosystem, but now I want to provide you with more info about it.

As of late 2023, WBTC is a crucial part of the modern blockchain ecosystem. Blockchain users are known for their true love of their favorite tokens. Some of them even don’t want to experiment with new tokens, while having a strong desire to use the latest DeFi tools.

Thus, in 2019 BitGo team created a WBTC token to unlock new services for loyal Bitcoin users. Today BTC holders can use Ethereum-based dApps without having to sell their tokens. All they need to do is to mint some WBTC.

You can use WBTC for lending and borrowing, exchange it on decentralized exchanges, or even implement it as part of a yield farming strategy.

WBTC mints and burns as any other common cross-chain token. To mint it, a user sends BTC to a custodian. The custodian locks up the original BTC in a smart contract. Once they are done with it, the custodian produces a fair amount of WBTC on Ethereum. The custodian then sends the WBTC to the user.

To burn WBTC, a user sends WBTC to a custodian. The custodian destroys the WBTC and releases the BTC from the smart contract. The custodian then sends the BTC to the user.

Potential Drawbacks and Risks

Unfortunately, is not always sunny in Philadelphia. Wrapped tokens are not some utopian solution. They have their own drawbacks that you should consider. While the blockchain industry is famous for its decentralization abilities, wrapped token ecosystems are partially centralized.

Cross-chain tokens are usually minted and burned by a group of custodians, responsible for holding the assets behind the contract. Generally speaking, users trust the custodians with their capital.

If a custodian decides to change fees and rules, users have no way rather to obey new rules. Generally, it is similar to traditional financial institutions, where clients only get notified about new changes, without rights to affect them.

If a custodian goes bankrupt or someone hacks them, users could lose their wrapped tokens and all underlying assets. It leads to huge trust concerns. Especially to wrapped tokens backed by hard verifying assents as Bitcoin. If a cross-chain token is not backed by the underlying asset, users could lose their money.

Additionally, users need to trust custodian’s smart contracts. Sometimes they can’t even check the contract’s code. Generally speaking, in those cases, the user risks their wallet security. If there is a smart contract vulnerability, users can lose all their cross-chain belongings.

Beware that wrapped assets have a more volatile price than the original token. They also may be not as liquid as native tokens, making the selling process far more complicated.

So, you should use wrapped tokens only from reputable custodians. Use wallets that support multiple custodians to lower your risks and verify that all cross-chain assets are backed by underlying assets.

Real-World Applications and Use Cases

Wrapped tokens already are a part of the blockchain industry. They are widely used in DeFi platforms allowing users to lend, borrow, and invest assets without relying on a central authority. You can use WBTC tokens in Aave and Compound.

There are multiple cross-chain swaps, supporting wrapped assets. You can even exchange one wrapped token for another. One of the most common examples is the bundle is SushiSeap with the MetaMask wallet.

You can use wrapped tokens as the payment option: a merchant could accept WBTC, even if they do not have a Bitcoin wallet. You can use these assets in blockchain gaming to buy in-game items.

Overall, wrapped tokens are a powerful tool that is helping to make the crypto ecosystem more interconnected and accessible to users.

The Future of Wrapped Crypto

I see the future of cross-chain crypto as promising. It has far more advantages than shortcomings. Wrapped tokens unlock interoperability and accessibility opportunities: you can stick with your favorite token type while using apps on different blockchains. This decision also reduces fees and shortens waiting time between transactions as the rules of the receiving network operate new assets.

Users can stay anonymous since they don’t need to use exchanges to get cross-chain tokens. At the same time, more and more wallets and dApps have started to accept cross-chain tokens.

All these factors are slowly yet surely leading to increased adoption of wrapped crypto as more and more users begin to understand its benefits. We will see even more usage cases.

However, we should keep in mind cross-chain assets disadvantages. They are reliable custodians that run minting smart contracts. Before bridging their assets to the new network, users should check custodians’ credibility before they start using wrapping assets.

What Is Wrapped Crypto And How It Benefit The Industry

Wrapped coins will change the crypto industry for good. They aimed to make the crypto ecosystem more interconnected and accessible to a general audience. They address the common blockchain challenges by simplifying interactions of multiple blockchains.

Wrapped assets increase liquidity for assets native to other blockchains, making them more accessible. They allow users to switch assets between different chains without having to go through a centralized exchange. Users can still use their favorable token, just in the new network.

I think that cross-chain tokens will play an even more important role in the future crypto landscape. We can expect to see even more tokens and possible usage cases.

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