Thursday, 30 March 2023

Crypto News

What are reflection tokens, and how do they work?

What are reflection tokens, and how do they work?

Arguably the most dynamic segment within the crypto ecosystem, decentralized finance (DeFi) projects have been revolutionizing how cryptocurrency investors can employ their tokens to access capital and even earn additional income on their crypto holdings. However, using DeFi products such as yield farming, liquidity mining and staking pools can often be a cumbersome experience for most crypto investors. 

To solve this problem, a new class of crypto tokens was introduced in 2021 that integrated self-generating passive income mechanisms to reward investors with supplementary crypto tokens. Known as reflection or reward tokens, these digital assets are increasingly gaining traction among crypto investors who are looking to harness the long-term potential of holding on to their cryptocurrency portfolio.

Understanding reflection tokens

Apart from the long-term price appreciation potential of cryptocurrencies, crypto investors are often found wanting an option to earn additional income from their tokens during the holding period. Considering that cryptocurrency markets can witness volatile price actions, short-term trading where traders try to record gains by selling high and buying low can be an extremely risky proposition. 

Similarly, DeFi products that require investors to deposit their crypto holdings in lieu of daily, weekly or monthly returns are a plausible option but are fraught with concerns, such as suffering from impermanent loss, rebalancing losses and even smart contract hacks that allow scammers to steal investor funds. 

In stark contrast, crypto reflection tokens or reward tokens encourage investors to hold on to their tokens, thereby promoting market stability while still offering investors the chance to earn incremental income on all transactions being made on the protocol. 

They utilize a built-in fixed reward mechanism that allocates a percentage of gas or transaction fees to be redistributed among tokenholders. This allows reflection tokenholders to earn additional crypto tokens in proportion to the number of tokens they own as compared to the total token supply. Some reflection tokens also apportion a part of the proceeds toward one or many liquidity pools, which are further used by decentralized exchanges (DEXs) to provide ample token liquidity.

The reward mechanism is driven by smart contracts that automatically tax every transaction and subsequently transfer the equivalent tokens as per set rules. The smart contract may be programmed to…

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