Newcomers to the crypto industry face many challenges before they're able to connect the dots. One of them is cutting through the jungle of concepts and lingo developed by the community. Many find it hard to tell the difference even between the basic notions such as digital assets, cryptocurrencies, and tokens, not to mention distinguishing between different types thereof. It's not surprising, considering the fact that the crypto nomenclature is used rather loosely. Some words or phrases may have multiple meanings, while some things or issues may be referred to differently depending on the context.
This is the case with crypto tokens. They are sometimes given descriptive names suggesting inherently different qualities while, in fact, the names may refer to different aspects of the same digital "object." It may feel confusing to learn about different types of tokens and then find out that a specific token falls in two or three categories. Still, it is important to understand that terms like "utility token" or "exchange token" imply different meaning, even though they may refer to the same digital asset.
What's the difference between digital assets, cryptocurrencies, and tokens?
Let's start with clarifying the fundamental concepts. "Digital assets" is a general word referring to anything digital that holds value, even if the value is linked to external goods or services. In semantic terms, it is a hypernym for both cryptocurrencies and (crypto) tokens but also includes non-crypto assets like DNS domain names.
On the other hand, a "cryptocurrency" is a term referring strictly to blockchain-based digital currencies, preferably – if not exclusively – to those inherently linked to their dedicated blockchains, such as Bitcoin or Ether. In practice, the notion is often extended to cover forks and tokens, but for the sake of clarity and conciseness we'll not discuss the validity of such an approach.
Essentially, a cryptocurrency is a decentralized medium of exchange that uses cryptographic signatures, and its logic is built into the protocol of a blockchain. You can call it a blockchain's native currency. So what is a token? It's most of the things a cryptocurrency is, with the difference being its logic is programmed in a smart contract deployed to a blockchain rather than in the blockchain itself. In other words, a token is not integrated into the fabric of a blockchain.
What are the different types of cryptographic tokens?
Cryptographic tokens can be classified against various criteria, for example, based on the token standard used for issuing them. In this case, the most common solutions are ERC-20 for fungible tokens and ERC-721 – for non-fungible ones.
By the way, fungibility is another criterion you may apply to categorize tokens. You can also differentiate between Ethereum and non-Ethereum-based tokens or even native or non-native tokens if you care to recognize Ether or Bitcoin as a token rather than "pure" cryptocurrency.
Anyhow, the most common approach to classifying tokens is based on their functionality and primary features you're referring to. For example, DeFi tokens are typically used for governance purposes, as they allow their holders to influence the structure and policy of the network. Hence, they are called governance tokens. At the same time, those tokens may be used for other purposes related to utility or transactions.
The same goes for tokens issued by exchange platforms, which may be used to pay for extra services or perform some actions within the platform environment. Consequently, they can be called exchange tokens, as well as payment or utility tokens, depending on the highlighted aspect of their functionality or application.
If that's not messy enough to make you stop reading, feel free to proceed to a more detailed explanation of the most common(ly described) crypto tokens.
Utility tokens are units representing a value on a blockchain. They are created for a range of applications within a particular crypto environment. They are integrated into a protocol on top of a specific blockchain and enable users to access certain services of that protocol and perform specified actions. You can think of them as digital vouchers or coupons, which allow you to acquire digital goods offered by the token issuer.
Utility tokens are frequently dispensed to investors during an initial coin offering (ICO) – a fund-raising phase of a new investment. They help issuers attract resources and attention from the market. It's important to keep in mind that, unlike security tokens, utility tokens are not designed for investments. They only provide their holders with the opportunity to purchase specified services or assets in a given network.
Examples of utility tokens include:
- BAT – Brave's Basic Attention Token issued through the Brave browser or applications with an integrated BAT wallet, such as Twitter,
- BNB - proprietary token powering the Binance ecosystem; it allows users to buy goods and services, settle transaction fees on Binance Smart Chain, and more,
- MANA – Decentraland's native token; with MANA, users can purchase, develop, and trade virtual land in the Decentraland's metaverse,
Security tokens, also called equity tokens, are tokenized securities existing on the blockchain and deriving their value from external assets. They are subject to regulations covering traditional securities and stock trading. In the United States, they fall under the purview of the Securities and Exchange Commission (SEC).
Security tokens represent transferable ownership rights and are intended to be treated as investment instruments similar to stocks, bonds, options, debentures, and other securitized assets. Unlike utility tokens, they are designed to be accessed and traded also outside their native environment, i. e. the platforms on which they were developed.
Security tokens have vast applications in tokenizing (creating a token representing the ownership of) virtually any class of assets, both digital and real-world. They enable tokenization of rights to property, land, real estate, gold, fiat currencies, movables, etc.
One example of a security token application is a token tied to a car's identification number (VIN) and its owner's personal data. Another one is a token issued by a real estate investment trust (REIT) to represent the ownership of a piece of property.
Specific examples of security tokens include:
- BCAP – an Ethereum-based smart contract security token created by Blockchain Capital; BCAP holders gain rights to a portion of the fund's profits,
- Props – a security token developed by the company of the same name; it enables apps to reward users and content creators with a financial stake in the network they engage with,
- Siafunds – launched by Sia, a cloud-storage company; Siafunds security tokens are used for revenue sharing on the Sia network.
In the simplest terms, governance tokens are used for voting. They play a crucial role in distributing the control of blockchain projects across their respective communities. Tokenholders can vote on the issues related to particular projects and their overall direction.
As a result, governance tokens help to increase the engagement of the users and their perceived responsibility for the success of the enterprise. They are also essential for maintaining the blockchain project in a decentralized fashion since they enable transferring decision-making to the community instead of limiting it to the selected few.
With government tokens, users can both vote on governance proposals and submit new ones for voting. Issues determined in this manner include: altering fees, introducing changes to distributing rewards, implementing interface changes, and more. In fact, governance can be considered as a primary function "embedded" in most DeFi tokens. Mind though, that DeFi tokens usually have other practical features putting them into the category of utility tokens.
Examples of governance tokens include:
- CRV – an Ethereum-based token developed by Curve DAO as an instrument for facilitating on-chain governance,
- MKR – a governance token managed by MakerDAO, used for voting on the business logic and risk management of the network,
- ZRX – a governance token introduced by 0x, a peer-to-peer exchange of Ethereum-based assets, for handing over the control of the project to its users.
As the name suggests, transactional tokens are used for transacting. They serve as units of account and can be exchanged for digital products and services.
A transactional token is a general name that is frequently applied to both cryptocurrencies and tokens. As a matter of fact, taken literally, it can refer to value representations even outside the crypto space, including fiat money. Theoretically, it also refers to Bitcoin or Ether as a means of settling transactions.
However, to keep things tidy and preserve the "coin vs. token" dichotomy, it's best to exclude "the real cryptocurrencies" from the transactional tokens category. Tokens usually don't have their dedicated blockchain and are secondary creations built on top of a primary infrastructure – typically, on the Ethereum blockchain.
Another name for a transactional token is a payment token, as it essentially denotes the same function. The concept, for the most part, covers both utility tokens and exchange tokens (tokens issued by exchanges), which are used for acquiring certain goods within or – less often – outside their dedicated ecosystems.
Examples of transactional tokens include:
- Huobi Token – a token issued by the Huobi exchange, also classified as a utility token; it allows users to get discounts, access new cryptocurrencies, and more,
- SHIBA INU – an Ethereum-based token aspiring to be an alternative for the Dogecoin memecoin,
- Tether – a stablecoin issued on the Bitcoin, Ethereum, EOS, Tron, Algorand, SLP, and OMG Network blockchains.
Non-fungible tokens (NFTs)
A non-fungible token (NFT) is a unique, irreplicable, blockchain-based certificate of ownership. It represents the holder's rights to a specific asset. Typically, NFTs are linked to digital products, such as graphics, photos, videos, music, virtual properties, digital collectibles, memes, etc.. Still, they can be connected to physical items as proof of ownership rights.
NFTs are generated by smart contracts – programs designed to automatically execute contract conditions. As unique identifiers, non-fungible tokens are essentially different from cryptocurrencies and other fungible tokens, similarly to the way a million dollars' worth of work of art differs from million dollars.
Another convenient NFT analogy is a domain name – a unique web address corresponding to a unique online location that doesn't have an equivalent. NFTs can be traded – typically, on marketplaces like OpenSea, or Rarible – in which case the ownership right is transferred to the buyer.
Examples of NFTs include:
- BAYC – a collection of 10,000 Bored Ape Yacht Club digital collectibles featuring profile pictures of algorithm-generated cartoon-like apes,
- NyanCat – an NFT issued by the creator of the NyanCat video meme, popular in the early 2010s,
- WarNymph – a collection of ten NFTs issued by Grimes, a popular artist and Elon Musk's ex, which earned her $5.8 million in a matter of minutes.