Utility Tokens
Explaining how utility tokens work and why they’re so important
Initial coin offerings have been revolutionizing the world of traditional investing and have since brought large amounts of capital into the cryptocurrency and blockchain industries. When a project goes through with an ICO, they issue tokens that run on a blockchain to their investors who help them raise capital. It’s important to understand that all tokens aren’t the same, which is what brings us to the topic of this piece: utility tokens. Let’s go over what these are and the role they play in the cryptocurrency industry.
This is not financial investment advice.
This article touch upon key aspects of what utility tokens are and how they function as a whole.
In this article
Terminology
Token: Crypto tokens are special kind of virtual currency tokens that reside on their own blockchains and represent an asset or utility.
ICO: ICOs act as fundraisers of sorts; a company looking to create a new coin, app, or service launches an ICO. Next, interested investors buy in to the offering, either with fiat currency or with preexisting digital tokens like ether. In exchange for their support, investors receive a new cryptocurrency token specific to the ICO.
Blockchain: The easiest way to understand blockchain is to think of it as a fully transparent and continuously updated record of the exchange of information through a network of personal computers, a system which nobody fully owns. This makes it decentralized and extremely difficult for anyone to single-handedly hack or corrupt the system, pretty much guaranteeing full validity and trust in each exchange of information.
Crowdsale: Unlike traditional crowdfunding, a crowdsale doesn’t pre-sell a widget or promise to put your name in the credits of a movie. Instead, it sells you something that you might not know what to do with unless you are clued in: a token.
Familiarize yourself with these key terms to better understand what utility tokens are and why they’re so important.
What are Utility Tokens?
Utility tokens are one type of token that’s given out during crowdsales as a project executes an ICO. What makes a utility token special is that it represents future access to a company’s product or service, giving it some value but not guaranteeing anything. These are not used as investments, as they can be exempt from applicable federal laws governing securities if they’re properly set up.
If a company creates a utility token, it is essentially creating a kind of digital coupon that can be redeemed in the future for special access or discounted fees for their service or product. A good analogy for this is a pre-order, which is usually made for products that have not yet been developed or produced. Usually, there is a lot of hype surrounding the project and utility tokens serve the purpose of facilitating the investment process early on.
Utility tokens are a type of token that companies issue out during crowdsales when it executes an ICO. What makes these special is that they guarantee access to that company’s product or service in the future.
How Do They Work?
Utility tokens aren’t supposed to be digital asset investments. Yet, many people contribute to utility token ICOs with the hope that the value of the tokens will increase as demand for the company’s product or service increases. Based on fundamental supply and demand models, token price fluctuations can be compared to those of sporting event tickets.
The value of a ticket to a future sporting event may increase if one or both of the teams wins a significant number of games and becomes a contender for the championship. On the other hand, that same ticket may decrease in value if that team starts losing or no longer has a star player who people want to see.
Simply put, utility tokens — or any token for that matter — are not a guaranteed investment and should be understood as digital coupons that can give you access to a company’s product or service in the future. With that being said, ICO’s have been famous for producing some of the largest returns imaginable, while also being known to run the risk of losing your investment since tokens do not guarantee any substantial returns.
Tokens can be used and redeemed to access a company’s product or service in the future. They can also be sold if the company starts to gain a lot of popularity and the demand for their utility tokens go up.
Other Types of Tokens
Tokens can be split into three categories: utility, security, and payment. As we already discussed, utility tokens give someone access to a company’s product or service in the future while not guaranteeing any returns on their investment.
Security tokens, on the other hand, represent assets such as participation in real physical underlyings, companies, or earnings streams, or an entitlement to dividends or interest payments. In terms of their economic function, the tokens are essentially the same as equities, bonds or derivatives.
Lastly, there are payment tokens which are intended to provide many of the same functions as long-established currencies such as the U.S. dollar, Euro or Japanese Yen but do not have the backing of a government or other body.
Tokens can be categorized as utility, security, or payment tokens. Each have different use cases and values.
Conclusion
ICO’s have quickly gained legitimacy as one of the best ways for new startups to raise capital, especially if they’re in the blockchain industry. If you’re interested in investing in cryptocurrency, then it’s important that you know the difference between a coin and a token, which is why you should be able to tell a utility token apart from other kinds of tokens. Having a general understanding of how these assets work will suffice, but what separates a smart investor from an average investor is understanding the intricate details that categorize different tokens and coins. As always, happy investing!
Have you invested in any kind of tokens before?
Let us know how they were utilized in the comments!
