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What Are Crypto Tokens?

dYdX
dYdX
What Are Crypto Tokens
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dYdX

Crypto has been the talk of the “financial” town for a while now and because it’s a whole new world, people tend to confuse “tokens” with “coins” when discussing digital currencies. Although both tokens and coins use decentralized computer networks called “blockchains,” there are noteworthy differences between them. 

Most significantly, tokens aren’t built directly into a blockchain’s core architecture like coins. Instead, tokens are crypto assets that developers add to preexisting blockchain networks using advanced Web3 technologies. Rather than building a new blockchain from scratch, token programmers use the strengths of other blockchains to create innovative use cases for their cryptocurrencies.

Learn what crypto tokens are, the difference between coins and tokens, and the use cases of tokens to understand how these cryptocurrencies work and how to use tokens in investments.

What are crypto tokens? 

In the cryptocurrency universe, a token is any crypto asset on top of another blockchain. In other words, tokens aren't "native" to a particular blockchain—they aren't built into a blockchain's central code. Instead, token projects exist in relation to a preexisting blockchain project and must abide by their blockchain's core programs. For example, if developers build a token on top of Ethereum (ETH), their cryptocurrency will use the same transaction mechanisms, validation system, and fee structure on the Ethereum blockchain. 

In a sense, tokens are similar to add-on features or accessories. Although tokens add many exciting applications to a blockchain's ecosystem, they aren't essential for the blockchain's operations. If a token project fails or leaves one blockchain for another, it won't disrupt the central programming in the blockchain it was built on.  

How do crypto tokens work?

Oftentimes, token creators use "smart contract" technology to create digital assets while preserving their project's decentralization. First introduced on Ethereum, smart contracts are programs that perform countless tasks without the help of a third-party intermediary. Instead of relying on centralized authorities, smart contracts analyze conditions on the blockchain and react according to their programming. Web3 developers use smart contracts to write and record "token contract addresses," which store all the essential information on a token's supply and issuance schedule. 

SAND, for example, is a cryptocurrency token built on the Ethereum blockchain. It serves as the primary currency in The Sandbox metaverse. For reference, the metaverse is a combination of virtual reality and mixed reality, facilitating real-time interactions on the digital platform. Gamers use SAND tokens to buy virtual items, play games, or invest in digital property. Anyone can view transaction data and statistics on SAND tokens by reviewing its token contract address on an Ethereum browser. SAND's contract address is 0x3845badAde8e6dFF049820680d1F14bD3903a5d0.

Why do we need crypto tokens? 

Although crypto tokens have monetary value, they aren't primarily used as a means of exchange. Unlike projects such as Bitcoin (BTC) or Litecoin (LTC), tokens have multiple use cases for developers and investors.  

  • Fundraising: Some Web3 start-ups use token sales to fund their crypto projects. Investment: Some people prefer to buy tokens over coins––based on their instincts about a particular project’s performance. Centralized and decentralized crypto exchanges offer trading services related to dozens of crypto tokens (more on that in a bit). 

  • Unique use cases within Web3: Some tokens offer holders access to VIP portals, crypto rewards, or exclusive governance privileges within a crypto project's ecosystem.Crypto tokens may also provide users with built-in voting rights for upcoming proposals on a crypto project's future upgrades. 

  • Digital collectibles: NFTs (non-fungible tokens) are a special category of cryptocurrency with unique blockchain addresses. Each NFT is unique and non-duplicable, which is why NFTs serve as digital "property" similar to limited-edition trading cards or unique art. NFTs represent a form of digital media and are often likened to "virtual collectibles." 

What are the main types of crypto tokens?

As blockchain tech evolves, more developers are inventing new use cases for crypto tokens. Most of today's tokens, however, fall into these categories: 

  • Utility tokens: Utility tokens encompass a broad range of cryptocurrencies (mostly built on the ETH blockchain) with specific use cases in a crypto project. They facilitate voting on governance proposals and rewarding investors participating in a Web3 ecosystem. 

  • DeFi tokens: Short for "decentralized finance," the DeFi industry seeks to automate and decentralize traditional financial services (e.g., borrowing, trading, and lending). Some DeFi protocols issue proprietary tokens to oversee governance. 

  • Governance tokens: A governance token is any cryptocurrency that gives holders voting privileges on upcoming proposals. It is technically a subcategory of “utility tokens.” Typically, investors "lock" their governance tokens in a smart contract address associated with proposed changes. The smart contract automatically tallies the votes for and against the proposal, then reveals the results. On most platforms, one governance token equals one vote.  

  • Stablecoins: Despite their name, stablecoins are "tokens" with the same value as a real-world asset, such as the U.S. dollar. The most widely used stablecoins track the price of the USD, but there are stablecoins tied to other fiat currencies, including the euro. 

  • NFTs: NFTs are scarce cryptocurrencies with verifiable "ID tags" on their blockchains. Most NFTs are associated with digital artwork and collectibles, but they can be any digital file such as film clips, music, and video game items. Two notable projects include the Bored Ape Yacht Club and CryptoPunks. 

Crypto coin vs. token 

The most significant difference between a crypto coin and a crypto token is that the former exists on a proprietary blockchain network, while the latter is built on top of a blockchain using smart contracts. Put another way, a coin is never an “add-on” feature. Sometimes, developers call coins “native assets” because they are “native” to their blockchain’s infrastructure. Programmers encode all their coins’ details—such as maximum supply and coin issuance schedules, directly into a blockchain’s code—and coins are essential for paying transaction fees on the blockchain. 

Compared with tokens, coins tend to have fewer use cases. In fact, most coins are used for investing, paying transaction fees, or exchanging value over the internet. Instead of using coins in cutting-edge Web3 applications, these cryptos are often digital alternatives to traditional assets such as cash or precious metals. 

A crypto coin is the essential currency in a blockchain's protocol. For example, all BTC transactions take place on Bitcoin's blockchain, and people who send Bitcoin need to pay network fees in BTC. The Bitcoin blockchain uses an algorithm known as proof-of-work (PoW)––which requires people to solve complex mathematical problems––to verify transactions and create new BTC. Anyone who runs a computer on the Bitcoin blockchain "mines" new BTC onto the native chain every 10 minutes. Since BTC is the central component of its blockchain rather than an add-on feature, it qualifies as a coin. 

Besides BTC, here are a few other examples of crypto coins:

  • Ethereum 

  • Solana

  • Litecoin

  • Dogecoin

Are ‘altcoins’ the same as crypto tokens? 

The term "altcoin," short for “alternative coins,” means any cryptocurrency other than Bitcoin. These are also called non-Bitcoin cryptocurrencies.

All crypto tokens are altcoins, but not all altcoins are crypto tokens. There are many cryptocurrencies that qualify as “coins” that aren’t on the Bitcoin network. For example, Litecoin, Dogecoin, and Monero all have their own blockchains, meaning they’re both “coins” and “altcoins.” As long as a cryptocurrency isn’t Bitcoin, it’s an altcoin. 

Examples of crypto tokens

Here are a few prominent crypto tokens that further clarify the diversity of use cases for these crypto assets: 

  • USDC: Created by exchange Coinbase and fintech company Circle, USDC (or USD Coin) is a stablecoin with a 1:1 value pegged to the U.S. dollar. To maintain its steady USD value, Circle has bank reserves with USD and treasury bonds equivalent to every USDC it issues. Although USDC is most widely used on Ethereum, it's available on competing blockchains such as Solana, TRON, and Avalanche.  

  • Aave (AAVE): Aave is a decentralized crypto lending and borrowing platform on Ethereum. Anyone with a compatible crypto wallet can add funds into Aave's reserves for interest rewards or take out a loan by depositing crypto collateral. The Aave team uses the AAVE token for decentralized governance and as an emergency fund in its "Safety Module." 

  • Shiba Inu (SHIB): Launched in 2020, SHIB is a dog-themed "meme token" similar to Dogecoin (DOGE). Unlike DOGE, SHIB is on the Ethereum blockchain. Hence, it's a token rather than a coin. Today, it’s a medium of exchange, but developers plan to create a metaverse game (Shibarium) and DeFi applications for it.

Trade dozens of crypto tokens on dYdX 

On dYdX, traders take advantage of crypto derivatives such as perpetuals for dozens of crypto tokens. dYdX offers access to deep liquidity and up to 20x leverage. 

dYdX is on a mission to develop secure, open, and powerful financial products. To learn more about how dYdX differs from other decentralized exchanges, head to our blog. And while you’re at it, check out our academy to learn more about crypto and trading strategies. Start trading on dYdX today!

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The content of this article (the “Article”) is provided for general informational purposes only. Reference to any specific strategy, technique, product, service, or entity does not constitute an endorsement or recommendation by dYdX Trading Inc., or any affiliate, agent, or representative thereof (“dYdX”). Use of strategies, techniques, products or services referenced in this Article may involve material risks, including the risk of financial losses arising from the volatility, operational loss, or nonconsensual liquidation of digital assets.  The content of this Article does not constitute, and should not be considered, construed, or relied upon as, financial advice, legal advice, tax advice, investment advice, or advice of any other nature; and the content of this Article is not an offer, solicitation or call to action to make any investment, or purchase any crypto asset, of any kind.  dYdX makes no representation, assurance or guarantee as to the accuracy, completeness, timeliness, suitability, or validity of any information in this Article or any third-party website that may be linked to it.  You are solely responsible for conducting independent research, performing due diligence, and/or seeking advice from a professional advisor prior to taking any financial, tax, legal, or investment action.

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