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Cryptocurrencies are both investment opportunities and new financial instruments of increasing importance to investors and business owners.
december
21, 2018
7 min read
Opinions expressed by Entrepreneur contributors are their own.
You can classify every digital currency into existence as one of these five types of cryptocurrency. These distinctions are for the utmost importance for cryptocurrency investors because they determine what exactly you're investing in, and who can invest in the first place. From to tokens, stablecoins to utility and security tokens, here are the main types of cryptocurrency you need to know about.
Coins vs Tokens
The biggest distinction in cryptocurrency is between coins vs tokens. Every cryptocurrency has to be one or the other. Here's what differentiates coins from tokens: Coins have their own blockchain. Tokens do not.
Most of the big name cryptocurrencies – Bitcoin (BTC), Ethereum (ETH), and Ripple (XRP) – are coins. Records on a digital ledger. The most important thing to remember about coins is that they have their own blockchain, meaning to decentralized, peer-to-peer
By contrast, a token does not have its own blockchain. The Ethereum blockchain is the most popular platform for token creation, though you can theoretically create a token on any blockchain. 0x (ZRX), Maker (MKR) and Basic Attention Token (BAT) are examples of ERC-20 tokens, meaning a specific type of Ethereum-based token. In other words, their protocol exists 'on top of' the Ethereum blockchain.
Related: 5 Benefits of Online Peer-to-peer Lending That You Did not Know
Coins function as currency. Tokens represent access to a product or 'stock.'
Since they have their own blockchains, it makes sense that they serve as currency, a means of exchange, within that network. Bitcoin is a store of value, like gold, and Ripple is facilitates cross-border bank transactions. Furthermore, it's easier to convert to a coin, rather than a token. Investing in tokens usually requires USD for a coin first.
Token is a little more complicated. Tokens are typically released in ICO, which stands for Initial Coin Offering. ICOs are like IPOs for cryptocurrency, meaning that they give the investor access to tokenized services or products, or represent a stake in a cryptocurrency company. These are where tokens get a little confusing: Tokens fall under different SEC regulations depending on what they represent. You can separate into two types of cryptocurrency that represent either a utility or a security.
Related: 6 Cryptocurrencies You Should Know About (and None of Them Are Bitcoins)
Tokens Utility vs Security Tokens
Cryptocurrency is a combination of these two types of cryptocurrency. In other words, the SEC has much stricter regulations for security tokens that it is considered to be digital securities.
Most Tokens Are Utility Tokens.
If you can buy or trade token on a cryptocurrency exchange without being an accredited investor, then it's a utility token. In broad terms, a utility gives an investor access to a service or product. This can mean that it can represent exclusive access, discounted rate, or early access. When you hear about smart contracts and DApps, you should assume that a utility token is involved.
Basic Attention Token (BAT) is a token utility that has received a lot of press. It's a means of exchange for digital advertising attention, hence the name. Integrated with the Brave browser, BAT works in three ways:
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Users receive BAT for consenting to view ads.
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Content creators receive BAT when users view ads on their site.
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Advertisers buy ad space with BAT.
BAT represents attention, not stock or currency, making it a utility token. This means that anyone can trade utility tokens on a cryptocurrency exchange.
Related: Smart Contracts: Here Are the Practical Applications of This Exciting Blockchain Technology.
Security tokens are securities that exist on the blockchain.
Security Tokens are different. Like securities, security tokens represent part-ownership in a tradeable, real-world asset And as security tokens are regulated by the SEC like securities, meaning Security Token Offerings.
The SEC decides whether it is a security token using the Howey Test. In simple terms, the Howey Test determines whether to invest in a third party.
Investing in security tokens is slightly more difficult. Investors must use a security token issuance platform, like Polymath or Swarm, to buy and trade tokenized securities. Unlike Coinbase or Binance, which are cryptocurrency exchanges that allow anyone to create an account, security token issuance platforms require their users to meet specific requirements. This typically means having your credit investor status confirmed by a KYC provider. The platform will then create a customized profile that specifies how and how much each investor can trade.
Related: Will the SEC Redefine Who Can Be an 'Accredited Investor'?
Converging Types of Cryptocurrency
Distinctions between types of cryptocurrency can be obscure. Since they have access to a lot of smaller investment pools with security tokens, they try to pass their security tokens for utility tokens. There is also a debate over which tokens can represent currency, like coins, rather than access to a service. To make matters less clear, stablecoins are often technically 'stabletokens'.
What is a Stablecoin?
Stablecoins are an increasingly popular type of cryptocurrency, especially in a Bitcoin bear market. This is because it is "pegged" to traditional assets like fiat (meaning government-backed currency like the US Dollar or Euro) or gold.
For example, the US dollar itself is 1 to 1. In theory, the company behind a stablecoin has the same exact amount in assets, stored in bank accounts, as they do tokens.
Cryptocurrency to stablecoins, the advantage of stablecoins is that in the bear market, a more 'stable' asset class in theory. This is instead of converting it back to USD, which can be a two-step process that incurs transaction fees. Investors can convert their stablecoin into other more volatile currencies at little to no cost.
Historically, however, stablecoins have 'broken their peg' in both directions. For example, controversial stablecoin Tether (USDT) has been worth less than a dollar, and Gemini Coin (GUSD) has exceeded the value of a dollar. This highlights another feature of the stablecoins: Most have "USD" in their name. But keep in mind that not all do. For example, Maker (MKR), another stablecoin, does not.
Stablecoins Are Generally Tokens.
Despite being called stablecoins, stablecoins are usually tokens, meaning they do not have their own blockchain. Maker (MKR) exists on the Ethereum blockchain. Tether (USDT) was built on the Bitcoin blockchain. Similarly, both these "tokens" function as "currency," which is a characteristic of coins, not tokens. As we develop new applications for digital currencies, distinctions between types of cryptocurrency become increasingly blurred, which makes SEC regulation even more uncertain.
Distinctions between types of cryptocurrency matter.
Why should you care whether it is a coin or a token, a utility token or a security token? The future investor should know the value of the crypto they are considering and, above all, how current and future SEC regulation will affect it.
Further, the distinction between coins and tokens represents two potential forks in the evolution of cryptocurrency: cryptocurrency as tokenized securities and cryptocurrency as a payment method. Will the crypto replace the stock market, the US Dollar or both? As it stands, both revolutionary applications of cryptocurrency are making headway.
