Wrapped Ethereum (WETH) vs. Ethereum (ETH): Similarities and Differences
If you have ever used the Ethereum blockchain, you must have noticed that most of the tokens used in trading and investing are ERC-20-based tokens. This token standard has become the most used option in decentralized applications (dApps), wallets, and crypto protocols due to its many functions.
However, Ethereum blockchain’s native token, Ether (ETH), in a tough position as it doesn’t align with ERC-20 token standards. Regardless, users continue to demand to use Ether in the decentralized finance (DeFi) and crypto space. This is where Wrapped Ethereum (WETH) comes in.
Wrapped Ether has become one of the favorites of investors and developers on the Ethereum blockchain as it presents a lasting solution to the use of Ether in the DeFi sector.
WETH is pegged to Ethereum’s price and is an ERC-20 token. Users can easily convert Wrapped Ether back into Ether. This article is an in-depth introduction to everything Wrapped Ethereum. Keep reading to find out more!
What are Wrapped Tokens?
Before we get into the nitty-gritty of Wrapped Ether, let us start with understanding the wrapped token concept.
Wrapped tokens are digital assets that allow for the movement of value from one blockchain to another, a form of blockchain interoperability.
The most popular wrapped token is the Wrapped Bitcoin (WBTC), which is pegged 1:1 to the price of Bitcoin (BTC), giving 1 WBTC the same value as 1 BTC. WBTC solves the interoperability limitation of Bitcoin by allowing BTC holders access to other blockchain ecosystems through its ERC-20 or TRC-20 functionality.
Wrapped coins have been compared to Stablecoins, and they fit this description in a way. Stablecoins, such as the USDT, track the value of a real-world asset like the dollar, making $1 the same as 1USDT.
What makes wrapped tokens fascinating is not the fact that they are pegged 1:1 to the value of another asset. Instead, it is the technology behind these assets, and the way value is backed and preserved.
Classification of Wrapped Tokens
Broadly speaking, there are two kinds of classes that all wrapped tokens fall into, including cash-settled and redeemable. The former, cash-settled wrapped tokens, cannot be redeemed for the underlying asset after conversion. This makes cash-settled tokens a permanent one-way street kind of token. On the other hand, redeemable wrapped tokens — as the name suggests — can be converted back into the original asset.
Meanwhile, blockchains determine the functionality of a token being wrapped, by playing host. For example, wrapped privacy tokens are hosted in the Monero or ZCash blockchains.
Usually, the wrapping process is done to tokens with notable utility outside their native blockchains. Here’s a quick look at some of the types of wrapped tokens available on the market:
Centralized/Custodial Wrapped Tokens
One of the most popular examples of a centralized or custodial wrapped coin is the wrapped Bitcoin (WBTC), an ERC-20 token. The value of this token class is sustained by two parties: a custodian and a merchant. Both parties validate transactions on this wrapped coin class using the Proof-of-Stake (PoS) mechanism and ensure the underlying coin is stored securely. To convert a coin into its wrapped form in this setting, the coin will be delivered to a merchant. This merchant stores the said coin as collateral with a custodian that supplies the desired wrapped coin.
Non-Custodial Wrapped Tokens
As the name suggests, this wrapped token class does not involve any third-party custodial services. Minting of non-custodial wrapped tokens is handled on a DAO.
Hybrid Wrapped Tokens
Hybrid tokens operate with both a centralized custodian and a DAO, infusing the best of both custodial and non-custodial wrapped token types. Hybrid tokens affect the most interoperability and flexibility across chains. However, this wrapped token type is relatively unknown and not acceptable or compatible with many DeFi projects and decentralized applications.
Wrapped Ethereum (WETH): The Basics
Drawing the meaning from wrapped tokens, Wrapped Ether is the tokenized version of Ether and is pegged 1:1 to the price of ETH. Unlike Ether, WETH cannot be used to settle gas fees.
Thanks to its ERC-20 functionalities, WETH is suitable for advanced blockchain transactions in the DeFi space. Despite being the progenitor of the ERC-20 token standard, the ETH token was created too early before the advent of the ERC-20 idea, cutting it out of many functions.
Creating and Minting Wrapped ETH
Creating (minting) Wrapped Ether rests in the hands of the users of Ethereum and is a seamless and quick process. ETH holders simply have to send their tokens to a specific smart contract, which automatically generates WETH and credits it to the user’s wallet. The smart contract serves as a custodian and locks up the ETH, thereby ensuring every single WETH in existence is backed by ETH reserves.
To maintain the WETH peg to the value of ETH, all WETH is burned (destroyed) whenever it is exchanged for ETH.
An easier method of acquiring Wrapped Ether is to swap another token, Ethereum, or any other tokens in your possession, using coin exchangers. Some popular options for swapping your tokens for WETH include Uniswap or Sushiswap.
How are Wrapped ETH (WETH) and Ethereum (ETH) Different?
Some traders grapple with understanding the difference between ETH and WETH. Let’s start by understanding what Ethereum is.
Today, many crypto projects prefer to create unique native tokens for facilitating transactions on the blockchain. In this sense, Ethereum created Ether (ETH) as the native cryptocurrency for its network. That said, customers interested in facilitating transactions directly on the Ethereum blockchain must use ETH to complete the process. Ether has grown into a massive asset and is used in several settings, such as for payments of goods and services on the Ethereum network, settling gas fees, and speculation.
Now that we know what Ethereum is, Wrapped Ethereum is the wrapped version of Ethereum. Think of a candy wrapped in a plastic wrapper; the candy is ETH while the wrapper is WETH.
As mentioned at the outset, Ethereum is not an ERC-20 token, limiting its use in the DeFi and crypto world. This is the primary solution WETH offers, as it is an ERC-20-standard token, allowing ETH holders access to previously restricted niches of the market.
WETH tokens are created by depositing ETH into smart contracts. These smart contracts act as a custodian and lock the deposited ETH in a secure address, which can be exchanged back into WETH on request, given the wrapped tokens are backed 1:1 by the ETH deposited. That said, converting WETH back to ETH essentially destroys or burns the tokens. Wrapping and unwrapping Ethereum comes at a small cost which varies across conversion platforms.
Meanwhile, users can choose to swap ETH for WETH through a decentralized exchange (DEX). Users can also swap their tokens for the value equivalent in WETH using Uniswap, OpenSea, and MetaMask.
Described below is a step-by-step guide to wrapping ETH through MetaMask:
- If you don’t already have a MetaMask account, create one and sign into your wallet.
- Confirm that you have funds available in the wallet. If you don’t, you can buy ETH using your credit or debit card, or you could send ETH from an external wallet.
- Log on to a decentralized exchange, such as Unswap, and link your funded MetaMask wallet with it.
- Then, you need to choose the Ethereum mainnet as the preferred platform before clicking swap.
- Once this is done, a prompt bearing the options of tokens is displayed. Select WETH from the drop-down option in the ‘Swap to’ box.
- Select the amount of ETH on your MetaMask wallet you want to wrap and select ‘Review Swap.’
- After this, a prompt bearing the details of the final transaction is displayed. Confirm that the displayed amount is what was originally chosen and other conversion details. The transaction will not go through if you do not have enough funds. A prompt to add more funds will be displayed.
Once confirmation is settled, complete the transaction by clicking the ‘Swap’ icon. The newly-minted WETH will be credited to your MetaMask wallet.
Say you want to convert your WETH back to ETH after the transaction you needed the ERC-20 token for is done, all you need to do is unwrap your WETH. Unwrapping a coin is the process of burning the wrapped coin and receiving the original version in your wallet.
As for wrapping Ethereum, there are several ways to unwrap WETH, including:
- The manual process through interaction with a smart contract.
- Exchanging WETH for ETH on a DEX.
- Unwrap WETH on MetaMask on OpenSea.
In this article, we’ll focus on the third option for unwrapping Ether. The process is as follows:
- Open the OpenSea website and log into your account. If you don’t have an account, create one and continue with the described process.
- Locate and click on the wallet icon. Though it varies for some devices, it should be at the top right corner of your screen.
- A prompt will appear requesting you log in using your wallet. Select MetaMask and proceed. You should already have a MetaMask wallet from wrapping Ethereum. If you don’t, create one and proceed.
- Sign into your wallet using your password.
- After that, you should see your fund details displayed on the screen. If you have insufficient funds, deposit more WETH and proceed.
- Click on the ‘option’ icon (usually represented by three bold dots) that appears under your WETH details.
- Select ‘Unwrap.’
- Another prompt with the transaction details would be displayed on your screen at this point. Carefully examine the details of the transaction and ensure everything is correct.
- Click on ‘Unwrap.’
Once this is done, click on ‘Confirm’ to transfer the original token (ETH) to your wallet. You should be credited shortly after this. This is the best and fast and best way to unwrap and wrap ETH.
Pros and Cons of Wrapped ETH (WETH)
DeFi Activity Enhancement
The Ethereum network is the broadest DeFi ecosystem on the block today, with the most compatibility. Unlike Bitcoin, Ethereum’s functionality is not limited to registering and validating transactions on the blockchain. WETH further improves Ethereum’s unparalleled functionality and reach by increasing its usability, leading to more advancements and innovations in the decentralized finance ecosystem.
Wrapped Ether delivers interoperability with standardized coins, allowing for the seamless flow of resources between blockchains innovatively. This inevitably improves blockchain processes and reduces the margin for errors substantially, creating room for more innovation and improvements in Ethereum’s DeFi ecosystem.
Elimination of Third Parties
Another critical benefit WETH renders is that it allows for decentralized transactions without the need for any third-party facilitator or mediator.
It needs no mention that wrapped coins like WETH allow transactions to be facilitated more efficiently, thanks to the immense compatibility and interoperability they have.
Risks Associated with Wrapped ETH
As mentioned earlier, smart contracts — that serve as custodians — are needed for the process of wrapping or unwrapping Ether. That said, issues arising from the underlying WETH smart contract in a transaction could put users’ funds at risk. A smart contract is only as good as its host blockchain, making it advisable to always use more reliable exchanger platforms.
The primary function of the DeFi space is in its name: decentralization. The reliance on platforms to hold, mint, and burn tokens brings about some form of centralization, which defeats the whole purpose of decentralization. For example, say $2 billion worth of WETH is domiciled in a centralized entity or smart contract provider. This gives the custodian in question some degree of control over these funds.
Associated Transaction Fees
The wrapping and unwrapping process of Ethereum is not free; there are transaction fees associated with it. It requires gas fees, which could be exorbitant sometimes. Transaction fees and slippages from frequent wrapping and unwrapping processes can snowball into large sums and eat at funds.
Will WETH Always Remain Pegged To Ether?
Short answer: yes. It has to. As mentioned earlier, wrapped Ether works similarly to a Stablecoin, as it has to remain as close as possible to the price of the original asset, or else it all falls apart. This is the reason for the minting and burning of WETH on every transaction; to make sure demand and supply are tamed.
In a scenario where WETH loses its peg, even if only slightly, and becomes cheaper than ETH, investors will immediately capitalize on the arbitrage opportunity and purchase more WETH and sell for ETH to make a quick profit. This would trigger a massive demand for WETH, which would, in turn, boost the price of the instrument, returning it to the peg.
The same is true when the price of WETH becomes higher than Ether, with investors purchasing Ether and converting it to WETH coins for profits, lowering the price of WETH. This primary demand and supply principle is the sustaining factor in ensuring a relatively stable peg between these assets.
WETH brings so much utility and efficiency to the Ethereum network users. Because of its ERC-20 quality, WETH can essentially be used across most blockchains, a feature lacking in Ethereum.
As discussed in the article, switching between ETH and WETH is a straightforward process that requires no technical knowledge or skills. Also, both wrapping and unwrapping processes adhere to the 1:1 rule, meaning you will always get the number of tokens desired outside transaction costs.
With Ethereum — the largest DeFi and smart contract ecosystem — constantly reinventing itself, more use cases for WETH in staking, NFT auction bidding, providing liquidity, yield farming, and crypto lending will continue to emerge.