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Altcoins represent all cryptocurrencies and tokens that are not Bitcoin, with some interpretations excluding Ethereum from this category. They’re crafted by developers with unique visions, often using distinct consensus mechanisms. These digital currencies attempt to build on the limitations of Bitcoin or craft new functionalities. While Bitcoin remains the most popular cryptocurrency, altcoins like Ethereum (ETH) and XRP have positioned themselves as pivotal players with distinct roles. Learn what defines altcoins and explore their various types, benefits, and considerations for the future.
How Altcoins Differ From Bitcoin
“Altcoin” is a combination of the two words “alternative” and “coin.” The term generally includes all cryptocurrencies and tokens that are not Bitcoin. Altcoins belong to the blockchains for which they were explicitly designed. Many are forks — creating a blockchain from another chain — of Bitcoin and Ethereum. These forks generally have more than one reason for occurring. Most of the time, a group of developers disagrees with others and leaves to make their own coin.
Many altcoins serve specific purposes within their blockchains, like Ether, which pays for transaction fees in Ethereum. Some developers created Bitcoin forks, such as Bitcoin Cash, to compete as a payment method.
Other altcoins are custom-built or forked to target specific industries, like Ripple, which uses the XRP Ledger to appeal to banks with faster payments.
Altcoins aim to overcome the limitations of the cryptocurrencies they derive from or compete against. The first altcoin was Litecoin, forked from the Bitcoin blockchain in 2011. Litecoin uses a different proof-of-work (PoW) consensus mechanism than Bitcoin, called Scrypt (pronounced ess-crypt), which is less energy-intensive and quicker than Bitcoin’s SHA-256 PoW consensus mechanism.
Ether is another altcoin. However, it did not fork from Bitcoin. It was designed by Vitalik Buterin, Dr. Gavin Wood, and a few others to be used in Ethereum, the world’s largest blockchain-based virtual machine. Ether (ETH) is used to pay network participants for the transaction validation work their machines do. It is also used as collateral (called staking) for the privilege of becoming a validator and block proposer.
Exploring the Different Types of Altcoins
Altcoins come in various flavors and categories. Here’s a brief summary of some of the types of altcoins and what they are intended to be used for.
Payment Token
As the name implies, payment tokens are designed to be used as currency — to exchange value between parties. Bitcoin is the prime example of a payment token.
Stablecoins
Cryptocurrency trading and use have been marked by volatility since their launch. Stablecoins aim to reduce this overall volatility by pegging value to another asset. This is accomplished by holding assets in reserve. Some of the assets held by stablecoin creators are fiat currencies, precious metals, or investment assets. Price fluctuations for stablecoins are not meant to exceed a very narrow range.
Notable stablecoins include Tether’s USDT, MakerDAO’s DAI, and the USD Coin (USDC). The payment processing giant Visa Inc. (V) settles some transactions on its own network, the Visa Stablecoin Platform, which supports Ethereum, Solana, and Tempo blockchains. Visa also uses the Open USD stablecoin, along with Mastercard, American Express, and Discover.
Security Tokens
Security tokens are tokens that represent fundraising efforts or ownership. They could also represent tokenized assets. Tokenization is the transfer of value from an asset to a token. Any asset can be tokenized, such as real estate or stocks. For this to work, the asset must be transparently secured and held. Otherwise, the tokens are worthless because they wouldn’t represent anything. Security tokens are regulated by the Securities and Exchange Commission because they are designed to act as securities.
In 2021, the Bitcoin wallet firm Exodus successfully completed a Securities and Exchange Commission-qualified Regulation A+ token offering, allowing for $75 million in shares of common stock to be converted to tokens on the Algorand blockchain.
Utility Tokens
Utility tokens enable services within a network, like purchasing services, paying fees, or redeeming rewards. Filecoin, which is used to buy storage space on a network and secure the information, is an example of a utility token.
Ether (ETH) is also a utility token. It is designed to be used in the Ethereum blockchain and virtual machine to pay for transactions. The former stablecoin USTerra used utility tokens to attempt to maintain its peg to the dollar — which it lost in May 2022 — by minting and burning two utility tokens to create downward or upward pressure on its price.
Utility tokens can be purchased on exchanges and held, but they are meant to be used in the blockchain network to keep it functioning.
Meme Coins
Inspired by jokes, meme coins often gain rapid popularity, driven by online hype from influencers seeking quick gains.
Many refer to the sharp run-up in this type of altcoins in 2021 as “meme coin season,” with hundreds of these cryptocurrencies posting enormous percentage gains based on pure speculation.
Governance Tokens
Governance tokens allow holders certain rights within a blockchain, such as voting for changes to protocols or having a say in the decisions of a decentralized autonomous organization (DAO). Because they are generally native to a private blockchain and used for blockchain purposes, they are utility tokens but have come to be accepted as a separate type because of their purpose.
Evaluating the Benefits and Challenges of Altcoins
Pros Explained
* Altcoins are “improved versions” of the cryptocurrency they derived from because they aim to plug perceived shortcomings.
* Altcoins with more utility have a better chance of surviving because they have uses, such as Ethereum’s ether.
* Investors can choose from a wide variety of altcoins that perform different functions in the crypto economy.
Cons Explained
* Altcoins have a smaller investment market compared to Bitcoin. Bitcoin has generally remained above 40% of the global cryptocurrency market since 2016.
* The altcoin market is characterized by fewer investors and less activity, resulting in thin liquidity.
* It is not always easy to distinguish between different altcoins and their respective use cases, making investment decisions even more complicated and confusing.
* Several “dead” altcoins ended up sinking investor dollars.
What’s Next for Altcoins: Future Trends and Predictions
The future of altcoins is reminiscent of 19th-century America, where diverse local currencies, each with unique traits and backing, circulated widely.
Local banks were also issuing currency, sometimes backed by fictitious reserves. That diversity of currencies and financial instruments parallels the current situation in altcoin markets. Thousands of altcoins exist today, each claiming unique purposes and targeting different markets.
The current state of affairs in the altcoin market indicates that it is unlikely to consolidate into a single cryptocurrency. However, it is likely that most of the thousands of altcoins listed in crypto markets will not survive. The altcoin market will probably coalesce around a few altcoins — those with strong utility, use cases, and a solid blockchain purpose — which will dominate the markets.
For diversification, altcoins often provide a cheaper alternative to Bitcoin in the cryptocurrency market. However, the cryptocurrency market, regardless of the type of coin, is young and volatile. Cryptocurrency is still finding its role in the global economy, so it’s best to approach all cryptocurrencies cautiously.
The Bottom Line
Altcoins are any cryptocurrency that is not Bitcoin (or Ethereum). There are thousands of altcoins on the market, so it is difficult to tell which might be legitimate and which are not. It’s best to read all the documentation behind whichever cryptocurrency piques your interest.
If there is a purpose for the blockchain and token, it might be worth watching — if not, consider other coins or investments. If you’re unsure, talk to a financial advisor familiar with cryptocurrencies to help you decide if they are suitable for your portfolio.
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Original Source: Investopedia
