Understanding Types of Crypto Tokens And Coins: Beginner’s Guide
Crypto tokens and coins are categorized differently depending on their formation and use cases. As an investor looking to venture into digital assets investment you would like to understand their differences and how they work. While Bitcoin was the first cryptocurrency created in 2009 by a group known as Satoshi Nakamoto, many more were created after Bitcoin.
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In 2011, when Bitcoin became popular, the idea of decentralization which is the major strength of Bitcoin was caught by other groups who created alternative cryptocurrencies to Bitcoin. Besides decentralization, the alternative cryptocurrency also known as Altcoin improved upon Bitcoin’s design and scalability issues to offer greater speed and other advantages.
Among all the cryptocurrencies created after Bitcoin, the one that came close to taking Bitcoin’s position is Ethereum. Altcoins were created to improve upon Bitcoin scalability issues, however, there is still one major issue that affects both the Altcoin and Bitcoin that also needs to be considered. There was a need for a hedging coin against the crypto market volatility, which led to the creation of Stablecoin.
Presently, we can identify about four types of cryptocurrencies depending on how they are formed or code designed, application, and other factors.
Different Types Of Crypto Tokens And Coins
The term cryptocurrency has been used to define different types of digital assets; it is usually interchangeable with coins. Besides Bitcoin, many other digital assets do not meet the standard to serve as a unit of account, store of value, and medium of exchange still they are all regarded as currencies.
Crypto coins are native assets of a blockchain, meaning they exist on their own blockchain. This differentiates them from altcoins and crypto tokens. They serve as payment cryptocurrency on their blockchain for fuel or gas and represent an asset. Coins belong to their blockchain and can be mined on the same blockchain. A good example is Bitcoin on the Bitcoin blockchain network and Ether or ETH on the Ethereum blockchain. Developing a crypto coin starts with developing a blockchain.
Altcoins, also known as alternatives to Bitcoin are those cryptocurrencies created after Bitcoin. They are regarded as coins because they have their own blockchain. Apart from Ethereum, most of the first altcoins were forked from Bitcoin. These include Namecoin, Peercoin, Litecoin, Dogecoin, and Auroracoin. Some altcoins like Ethereum, Ripple, Omni, and NEO have their own blockchain, while others do not.
Altcoins were targeted to improve upon Bitcoin limitations and come up with better versions and competitive advantages. Altcoins imitate Bitcoin’s success and seek to improve in various ways, but Bitcoin still remains the most popular cryptocurrency. Many altcoins are built on Bitcoin’s basic framework. They are peer 2 peers involving a mining process but still vary from each other. They use the Bitcoin Proof-of-Work, PoW, algorithm. Currently, the leading Altcoins are Litecoin, Dogecoin, Ethereum, and Ripple.
Stablecoins are hedge coins against crypto market volatility with their value pegged to another asset class. They were created to maintain price stability by pegging their monetary value to a given fiat currency like the US dollar, Euro, or another stable reversed asset. Stablecoins maintain a stable market price varying in functionalities but all are designed to resist market volatility and not yield to constant changes in prices. This makes them more useful as a medium of exchange than the more volatile cryptocurrencies.
Many stablecoin projects have their values fixed by pegging them to the price of other assets, fiat, digital assets, or commodities. Pegging the stablecoin to real-world assets such as fiat currency, silver, gold or other cryptos can help it resist the constant price changes caused by the high levels of volatility in the cryptocurrency market.
Categories of Stablecoins
There are two categories of stablecoin projects, collateralized and uncollateralized.
Collateralized Stablecoin: This is a Stablecoin project backed up by another asset value which determines the unit volume it can be issued. This type includes USD Coin (USD), PAXOS (PAX), and True USD (TUSD). Each of these coins is backed on a 1:1 ratio of the asset or fiat value held in the bank.
Collateralized stablecoin companies can hold the assets against which their coin is pegged and only issue new stablecoin units when there is an equivalent value in fiat currency. These coins are pegged to other cryptocurrencies, not fiat or commodities. Examples of this are DAI, the stablecoin minted in the Maker DAO ecosystem.
Non-Collateralized Stablecoins: This category of stablecoins uses algorithms to control the supply of tokens to keep the price fixed at a predetermined level. It maintains a stable value by using an algorithm to expand and contract its circulating supply in response to the market performance.
Stablecoin seems to be the digital asset that can address the two major challenges of all cryptocurrencies which are scalability and volatility. As a stable currency, it provides transparency and decentralization compared to the fiat currency, it presents faster transactions and lower fees. It is very useful for everyday payments and international transfers.
Crypto tokens are digital assets with value that can be bought and sold by investors and users on blockchain and crypto exchanges. Crypto tokens can be transferred, traded, bought, and sold like crypto coins but they are not used as a medium of exchange. This type of digital asset operates on a crypto coin’s blockchain and can represent an investor’s stake in an organization.
Tokens are the digital representations of a particular asset or utility on a blockchain. All tokens can be termed altcoin but they reside on top of another blockchain not being native to the blockchain on which they reside. They are coded to facilitate smart contracts on blockchain networks like Ethereum and are transferable from one chain to another.
Tokens are fungible and tradeable, they can be used to represent loyalty points, commodities, or other cryptos. Tokens can be issued to raise initial capital for a blockchain project through Initial Coin Offerings or ICOs and Initial Exchange Offerings, IEOs. Sometimes, they can be issued without ICOs and IEOs.
Classes of Crypto Tokens
Crypto tokens are differentiated based on their formation, purposes, and use cases. A token may be tied to a particular blockchain network and used for different purposes. While others are used for specific purposes. Sometimes they are used to represent a physical value or an investor’s financial hold in a company. This section will explain different classes of tokens and how they are utilized.
Utility tokens are special types of crypto assets that help in capitalizing or financing projects for startups or companies. They are issued during the Initial Coin Offering (ICO) for the specific utility which could be that tokens are used on the platform to redeem certain services or receive rewards. These Special types of tokens are designed for serving particular use cases in the blockchain ecosystem. Each token is endowed with a smart contract and holders have voting power. These tokens are distributed to reward investors for their commitment to the ecosystem and give them access to special products and services in the future.
Utility tokens can also be thought of as coupons or vouchers that are digital units representing a value on the blockchain. This means they provide special access to a product or service run or operated by the issuer. A person can benefit from utility tokens by buying the token and can redeem it for a fixed asset value to the product or service.
Features of Utility Token
- They are not investment products and can lose value at the expense of the holder
- Utility tokens are not regulated, and holders are not holding an equivalent of stock, or bonds regulated by the financial acts
- The holder does not have ownership access but the right to products and services to an equivalent value of the tokens. It allows token holders free access to products and services at discounted fees as long as they hold the tokens.
- Any crypto asset defined as a utility token may not be under any financial regulations in some jurisdictions.
Example of utility tokens
BNB Coin: Binance Coin was released by Binance exchange, initially it was used to give Binance customers a discount on trading fees.
LINK: Built on Ethereum and used on the CHAINLINK blockchain
BAT: Basic Attention Token
Security tokens are digital versions of traditional investments like stocks, bonds, and other assets.
They represent a fraction of assets that have real value such as equity, company, or real estate. As an investment, they represent ownership or other rights to transfer value from an asset, or asset class to a token. They are financial instruments that represent an ownership interest in an asset. They can be used as devices to gain access to an electronically restricted resource.
Security tokens derive value from external assets that can be traded under a financial regulation as a security. Therefore, they can be used for securitized tokenization of properties, bonds, stocks, real estate, and other real-world currencies. They represent a stake like a share in stock or equity, voting rights, and rights to the dividend of the asset represented. Holders can receive part of the profit from the issuer, a managerial action, or a decision.
More Features of Security Tokens
- Security tokens must be governed and controlled by financial regulators regarding the nature of transactions, their exchange, issuance, dealings, value, tokenization, backing, and trading to protect user investments.
- Security tokens need to be regulated to guarantee users’ funds and investments and to hold founders responsible.
- They are issued through Security Tokens Offering (STOs)
- The token application includes where investors need instant settlement, transparency in management, divisibility of assets, etc.
Two Types of Security Tokens
The two types of security tokens are equity tokens and asset-based tokens
The Equity Tokens are similar to traditional stocks except that ownership is transferred digitally, unlike a certificate issued for shares. Investors are entitled to dividends that come from profits made from token appreciation.
The Security And Exchange Commission (SEC) defines digital assets as digital tokens that represent assets such as debt or equity claims on the issuer. During ICO, potential investors get tokens (similar to shares of the company) and expect a future profit in exchange for their investment. Equity tokens are a subclass of security tokens that offer investors ownership rights just as company shares.
Equity Token Offering, ETO, is a new way to fund a business and enter the public market, by listing the tokens on an exchange. The ETO offers companies an opportunity to raise money for business by issuing digital tokens that represent ownership of the company, just like shares in the traditional Initial Public Offering, (IPO).
Asset Based Tokens
Asset Based tokens are digital claims on a physical asset that are backed by the underlying assets. They are blockchain-based units of value that are pegged to real-world assets such as company shares, real estate, gold, silver, oil, and more.
An asset-backed token derives its value from something that doesn’t exist on the blockchain because it represents ownership of real-world assets and they are tradeable.
Payment tokens are coins that serve the purpose of a medium of exchange, store of value, and unit of account, but they are not legal tender and are not backed by the government. The majority of cryptocurrencies fall under the category of payment tokens whether they are utility or security tokens. Cryptocurrencies are the native assets of a specific blockchain protocol, while tokens are created by projects that build upon those blockchains. Major cryptocurrencies like Bitcoin and Litecoin are payment tokens.
Payment tokens are used to buy goods and services on the digital platform without intermediaries. Payment tokens cannot be invested in as securities, they do not fall under financial regulation as asset securities. Therefore, they can not guarantee the holder’s access to any product or service now or in the future.
Examples of payment tokens are Bitcoin, Litecoin, Monero, and Ethereum.
Exchange Tokens are native cryptocurrencies created by centralized crypto exchanges or CEXs. Many traders regard exchange tokens as strong investments as their value is derived from the popularity and performance of the exchange, they are guaranteed to accumulate value as long as the exchanges remain relevant and trustworthy. The tokens are usually created by the company that runs the exchange as a means of fundraising like other companies. Exchanges are crypto marketplaces for buying, selling, and swapping tokens.
Exchange tokens are issued and used by cryptocurrency exchanges to facilitate exchange between other tokens and pay gas fees, however, they can be used outside the issuing exchanges. They can be used for cheaper gas fees payment, increase liquidity, provide discounts, govern blockchain platforms for voting rights, and access to services on the exchange. They also serve as promotional tools for the exchange to draw people to their projects.
So many centralized exchanges have payments tokens, the most popular ones are Binance’s (BNB), FTX’s (FTT), kucoin’s (KCS) Huobi Global’s (HT), and Crypto.com’s (CRO), OKEx (OKB).
The Non-fungible, tokens, NFTs, are units of data that live on the blockchain and represent ownership of a unique physical item. NFTs can’t be replaced or interchanged as the name implies they are non-fungible. Each has a unique identification code that is verifiable on the blockchain. They are created using the same type of programming used for cryptocurrencies, however, these unique digital identifiers cannot be copied, substituted, or subdivided. Unlike cryptocurrencies and fiat which are replaceable and divisible.
NFTs can represent digital or real-world assets such as pieces of art, music, videos, in-game items, audios, collectibles, real estate, virtual worlds, memes, GIFs, digital content like posts and tweets, fashion, music, paintings, drawing, pornography, academia, political items, film, memes, sports, games, or digital files of value but on the blockchain.
Basic Features of Non-Fungible Tokens (NFTs)
- They are different from Initial Exchange Offerings, IEO, which are Initial Coin Offering tokens offered during crypto exchange promotions.
- They allow the holder ownership of an original item of limited supply, edition, or originality
- They help creators, collectors, and artists to sell their items
- Due to their high value, the issues may be limited editions and not possibly be reproduced
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The best NFTs are the ones only two or a few people have ownership of. NFTs can be bought on NFT marketplaces like OpenSea, Rarible, Decentraland, Foundation, and more. Its application is to monetize wares for royalty payments and enable artists to receive a percentage of sales each time an item is sold to a new user.
Some of the popular NFTs are, EVERYDAYS: The First 500 Days Drawings by Mike Winkelmann, known as Beeple, Twitter founder, Jack Dorsey’s first tweet HFT, Crypto Kitties
DeFi Tokens Or Decentralized Finance Tokens
DeFi tokens are digital assets associated with a specific DeFi project built on a decentralized platform. They are operated by smart contracts that can be bought, sold, or traded using decentralized solutions called dApps.
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These dApps are financial applications built on the blockchain or distributed ledger. and are made accessible to anyone with internet connectivity. The DeFi app is powered by a token economy behind which there’s a native token. These tokens represent a programmable form of money where programmers can program logic into payments and transaction flows. Through these tokens, so many transactions can be completed, and people can borrow, lend, earn interest, grow, and manage their portfolios. They can also buy securities, invest in stocks, buy insurance, invest in funds and other assets, trade on exchanges, and more.
The most unique feature of DeFi is smart contracts which allow anyone to write, define, program, and execute transaction rules based on certain conditions. Most of the DeFi tokens are based on Ethereum, others are on networks like Polygon, Cardano, Tron, Stellar, and IOTA.
Generally, without adequate knowledge, a lot of people may not understand the difference between crypto tokens and coins and the other associated digital assets such as NFTs and DeFi tokens. Crypto tokens and coins can be used for the exchange of value but not as a medium of exchange based on financial regulation laws. Though the purpose of the creation of all digital assets is to transfer value, their formation and design can limit their use cases.
The main difference between coins and tokens is that crypto coins are the native asset of a blockchain. This means they were created by the blockchain. Basically, coins serve as payment cryptocurrency while tokens have various use cases, they can be used to identify ownership of an asset or deed or access to a particular platform or services. Coins are mined but tokens are created and distributed by the project developers and you can purchase tokens with coins.
This article is created to guide anyone looking to venture into digital asset investments and help them understand the difference between crypto tokens and coins.