From WBTC to cirBTC, every product is redefining "ownership".

Written by: Andjela Radmilac

Translated by: Saoirse, Foresight News

Bitcoin holders in need of cash do not necessarily have to sell their BTC; they can choose to collateralize Bitcoin to borrow money. This allows them to maintain exposure to Bitcoin's price while using the value of the coin as collateral for a loan.

However, the problem is that many lending services are deployed on other blockchain networks. A large number of blockchain lending applications run on Ethereum, which independently records on-chain asset ownership. Meanwhile, users' Bitcoin records are on the Bitcoin mainnet, and Ethereum applications cannot directly access Bitcoin network assets for collateral.

One solution is for users to entrust their Bitcoin to a custodian in exchange for an on-chain token that lending applications can recognize. The original Bitcoin is stored by the custodian, while new tokens are generated on other chains to represent this Bitcoin asset.

This model indeed allows for obtaining loans without selling Bitcoin, but the holder’s dependency changes. Borrowers now need to rely on custodians to properly safeguard Bitcoin, adhere to redemption rules, maintain the token's pegged value, and ensure the lending protocol operates smoothly.

Coinbase, Circle, and WBTC all provide these types of services, creating competition among each other. Circle released a product specification for cirBTC on September 4, officially entering a market already occupied by cbBTC and established WBTC. The underlying logic of the three products is consistent: Bitcoin is entrusted to custodians, who issue transferable "wrapped tokens".

The key competition lies in: the actual usability of the tokens, and whether the entire mechanism is reliable when users want to exchange them back for native Bitcoin.

A Warehouse Receipt for Functional Expansion

The principle behind custodial Bitcoin wrapped tokens can be likened to a transferable warehouse receipt: goods are stored in a warehouse, but the documents can be transferred. The custodian holds the underlying Bitcoin, and the tokens can circulate among users; the product's protocol defines who has the right to redeem the tokens for real Bitcoin.

The process for depositing Bitcoin is as follows: after deposit confirmation, another chain mints an equivalent amount of corresponding tokens, a process referred to as minting. Redemption is the reverse operation: destroying circulating tokens, and the service provider releases the native Bitcoin according to the procedure. BitGo has introduced the deposit-redemption mechanism of WBTC: audited partner merchants interface with custodians to complete the exchange and charge a fee.

Ordinary retail investors can also directly buy already issued wrapped tokens on the secondary market. The transaction only involves the transfer of token ownership, and no new Bitcoin needs to enter the custodial pool. The underlying assets remain the same batch of Bitcoin and corresponding tokens; the wrapping process does not create new coins on the Bitcoin mainnet.

Theoretically, each wrapped token is equivalent to 1 Bitcoin; therefore, wrapped tokens cannot help holders avoid the risk of Bitcoin price decline. Even if your tradable assets turn into tokens on another chain, the fluctuations in value remain completely tied to Bitcoin.

The redemption mechanism keeps the price of tokens close to that of Bitcoin. If the market price of the wrapped tokens falls below the value of the underlying asset, eligible traders can buy tokens, redeem them for native Bitcoin, and earn the arbitrage difference after deducting costs. This kind of buying pressure narrows the discount. However, redemption restrictions and processing delays will weaken this arbitrage mechanism. Knowing that the underlying Bitcoin exists does not mean you can smoothly redeem and receive it.

Once the tokens are transferred to lending applications, loans can be initiated. Smart contracts are programs that automatically execute rules on the blockchain; they accept wrapped Bitcoin as collateral and allow users to borrow stablecoins pegged to the dollar. While borrowers incur debt, they still maintain exposure to Bitcoin’s price fluctuations.

Borrowers must provide collateral worth more than the loan. Because during the period when the loan is outstanding, the price of Bitcoin may fall. If the price drops significantly and the collateral cushion is exhausted, the application will liquidate the collateral assets to offset the debt.

This eventually leads to a situation that users hoped to avoid: not selling proactively, yet losing part of their Bitcoin position.

During the liquidation process, other market participants can repay part of the debt on behalf of the borrower to obtain the collateral, and the platform will set incentives to attract liquidators to participate.

The wrapped tokens themselves do not generate interest. If holders want to earn returns, they must take additional actions, such as lending the tokens out again. All earnings come from subsequent operations, which also introduces additional risks beyond holding the tokens themselves.

The Same Bitcoin, Different Redemption Channels

Even if tokens are backed by sufficient Bitcoin, they are of no use to the borrower if the lending protocol does not accept them. Some token ecosystems have high acceptance, but ordinary users face significant difficulties redeeming native Bitcoin. Even if providers claim the underlying assets are the same, the actual user experience can be vastly different.

WBTC relies on a network of merchants to connect the minting and redemption links, interfacing with major exchanges and institutions. Most ordinary users buy WBTC from exchanges. Lending protocols that already support WBTC provide users with collateral lending scenarios, where merchants are responsible for connecting the Bitcoin in the custodial pool. Established tokens leverage this cooperative ecosystem to generate value, while new entrants find it difficult to replicate the same conditions in a short time.

Coinbase integrates the exchange function into exchange accounts. Qualified users can choose the supported network when withdrawing Bitcoin from their accounts, directly receiving chain-based cbBTC; users can then send cbBTC back to the Coinbase designated deposit channel, and their account will receive native Bitcoin. The exchange rules for cbBTC have geographic restrictions, but for qualified users, the entire process is almost indistinguishable from a standard transfer.

Circle's cirBTC is primarily aimed at institutional clients, including traders and lending protocols, deeply integrated with Circle’s existing business and USDC. Circle claims that the underlying Bitcoin has been risk-isolated from the company's own assets, publicly disclosing reserve addresses and integrating Chainlink oracles, allowing on-chain software to access reserve-related data.

For borrowers, competition among different products directly determines which platforms your Bitcoin can be used as collateral on and how easy it is to exchange tokens back for BTC.

The business logic is clear: first, make it convenient for existing clients to use the wrapped tokens, and then persuade external DeFi applications to accept the asset. However, the latter cannot rely solely on brand reputation and public reserve proof.

Lending protocols need to assess the lending limits of each type of collateral. The protocol must ensure that when borrowers face liquidation, the collateral can be smoothly sold. Liquidity represents the speed at which collateral assets can be disposed of without crashing market prices. Even if the token reserves are sufficient, if there are few buyers in the target chain's market, it still has no real value.

This explains why older, well-traded wrapped tokens are more easily chosen as collateral. More lending scenarios, in turn, attract more holders and traders. New tokens are in a dilemma: they have to persuade lending protocols to accept an asset with few users while convincing users to hold a token without widespread protocol support.

WBTC directly allows partner merchants to earn exchange fees. More generally, a useful wrapped token can drive traffic to service providers, but actual profits depend on the business model. Unlike some dollar-pegged stablecoins backed by treasury assets, the Bitcoin in custodial pools does not automatically earn interest. The commercial value comes from the various businesses generated from users' subsequent use of tokens.

Holding Tokens ≠ Holding Bitcoin

For ordinary users, verifying Bitcoin reserve status is only the first step. Coinbase provides a cbBTC reserve data dashboard to help users compare the circulating token count with disclosed custodial Bitcoin.

However, publicly available reserve assets do not address how assets will be handled after a service provider's bankruptcy or failure, nor do they guarantee that every token holder can redeem them immediately. The product protocol terms define who has redemption rights, and the redemption service itself must possess the capacity to fulfill them. Knowing that Bitcoin exists does not mean you can retrieve your own coins.

When tokens are stored in a personal wallet, this point can easily be overlooked: you control the private keys for transferring the tokens, but the private keys for the underlying native Bitcoin are held by the custodian. Even if tokens are in a personal wallet, the underlying assets remain under the custody responsibility of a third-party institution.

Participating in lending with tokens also requires additional reliance on lending protocol software. The protocol must accurately execute business logic and obtain reliable price data to assess collateral value. Even if the token issuer's reserve of Bitcoin is intact, users may still suffer losses due to software vulnerabilities.

For holders who only want cash and do not wish to sell Bitcoin, using wrapped tokens is a balancing act. It allows Bitcoin to be integrated into DeFi applications that originally did not support BTC; the cost is in fees, and you must trust multiple third-party institutions and smart contracts. Whether it is worth using depends on the value brought by the application and the risks users are willing to assume.

This also explains why multiple companies are vying to create wrapped tokens for the same Bitcoin asset. A wrapped token's foundation is to open the door for users to access lending or other financial services.

The starting point for lending may be Bitcoin, but ultimately, the most important thing is: whether the holder can get their Bitcoin back.