What is a wrapped token? All you need to know

Main

• A wrapped token is a “copy” of a crypto asset issued on another blockchain against the security of the original coin.
• This type of token is backed by the underlying asset in a ratio of 1:1, has the same price and allows you to expand the possibilities of application, for example, trading on decentralized exchanges that do not support the “original”.
• The most famous example of a wrapped cryptocurrency is Wrapped Bitcoin (WBTC), issued on the Ethereum network. It is widely used in the field of decentralized finance (DeFi).

What are wrapped tokens for?

With the development of the decentralized market, in particular DeFi applications, there is a need to transfer liquid crypto assets from one network to another.

This is what wrapped tokens are for. By using WBTC, the user gets the value of BTC in the Ethereum or Tron ecosystem. WBTC can be used as collateral for a stablecoin loan or used in income farming, all without the need for centralized exchanges and services.

In addition, WBTC greatly simplifies the work of exchanges, wallets and services – there is no need to configure individual nodes.

How and when WBTC appeared

WBTC is the result of the Wrapped Tokens project founded by three organizations: BitGo, Kyber Network and Ren. It was first announced in October 2018 and officially launched on January 31, 2019.

The WBTC ecosystem has dozens of well-known certified merchants, including Compound, Maker, Blockfolio, Uniswap, CoinGecko, Aave and 0x – they are responsible for issuing and burning WBTC.

How wrapped tokens are created and work

The wrapped token is issued by moving the crypto asset to a special storage and then issuing the wrapped token through a special smart contract.

In the WBTC example, the user must make a BTC transfer to a specified address on the Bitcoin network, after which the WBTC will be issued and transferred to the desired address on the Ethereum network.

A special service is responsible for issuing the wrapped token, storing the underlying asset in a smart contract and at the same time is responsible for issuing the wrapped version of the token. The reverse exchange occurs by burning WBTC in the Ethereum network and then “unlocking” the collateral in the Bitcoin network.

What does cross-chain bridges have to do with it?

Cross-chain bridges are a set of automated smart contracts that allow you to transfer an asset from one network, storing them in a special storage, to another, by issuing a wrapped token in it.

The main task of bridges is to create interoperability for networks and applications that are isolated from each other. For example, in order to start using BTC for farming on the Ethereum network, the user needs to somehow transfer the BTC coin to an ETH address – this is what bridges do.

In the case of WBTC, a complete list of trusted bridges can be found on the website Wrapped BTC.

What are cross-chain bridges and wrapped tokens

In addition to WBTC, there are many wrapped tokens of other coins – their release is limited only by the technological capabilities of a particular network and applications. Here are some examples:

Wrapped Ethereum (WETH)

A wrapped version of the ETH coin. Since most DeFi applications on the Ethereum network work with ERC-20 tokens, and the ETH coin does not belong to it (it was released before the adoption of the standard), we decided to issue WETH. It simplifies the exchange process using ether.

WETH can be issued on dozens of blockchains, including Polygon, Binance Smart Chain, Solana, Near, Avalanche, and Fantom. This wrapped version of ETH is one of the most ubiquitous tokens in the DeFi applications and income farming market. WETH is also used, for example, in trading on the OpenSea NFT platform.

Wrapped BNB Chain Tokens

Blockchain developers from Binance have created a special Binance Bridge to release wrapped versions of popular crypto assets on their network. The user can wrap BTC, ETH, XRP, USDT, BCH, DOT and other coins to take advantage of the power of the BNB Chain itself and the applications built on it.

Wrapped tokens on the Solana blockchain

One of the most popular bridges for Solana is Wormhole, connecting the network to Ethereum, Avalanche, Oasis, Binance Smart Chain and Polygon. The set of tokens and networks is constantly expanding.

Wrapped tokens on the Avalanche blockchain

In addition to many bridges controlled by individual applications, the developers have launched the official Avalanche Bridge from Ethereum to Avalanche with the ability to wrap popular stablecoins (USDC, USDT, BUSD) and other ERC-20 assets.

Wrapped tokens on the Near blockchain

The developers of this blockchain introduced the Rainbow Bridge solution, designed to transfer liquidity from Ethereum to Near. The team tried to make it possible to wrap the most popular tokens in DeFi: stablecoins (USDT, DAI, TUSD), WBTC and WETH, decentralized exchange tokens (1INCH, UNI), credit protocol tokens (AAVE, COMP) and exchange tokens (HT, CRO).

Risks of Using Wrapped Tokens

Using wrapped tokens is a convenient option for interacting with applications from a wide variety of networks. However, there are risks to be aware of.

First, cross-chain bridges, like any other smart contracts, can contain vulnerabilities in the code. This is confirmed by the Wormhole hack on the Solana blockchain in February 2022. They took advantage of the exploit, the attackers withdrew about 120,000 WETH from the project pool ($320 million at the time of the hack).

Second, there is the risk of centralization. Private keys that provide access to the funds stored in the bridge can fall into the wrong hands. The underlying asset will simply be withdrawn to a third-party address and the user will not be able to return the collateral. This happened to the Axie Infinity project and their Ronin bridge at the end of March 2022. As a result, the hackers managed to withdraw crypto assets for a total amount of approximately $625 million.