DXT1 is compression. To be more specific, it's DXT1c that we use for non-alpha textures. The difference between the DXT's are:
DXT1c is colour only (no alpha), compressed to 4bits/pixel.
DXT1a has 1bit alpha.
DXT3 adds support for a four-bit explicit alpha channel, on top of DXT1's color compression. Four-bit explicit alpha allows for sixteen distinct alpha values, making it good for textures with sharply contrasting translucent/opaque areas. Compressed to 8bits/pixel.
DXT5 supports a four-bit interpolated alpha channel. Three bits are used to determine explicit alpha values, and two eight-bit values are used to interpolate gradually between them. This makes the format especially suited for soft gradients and other textures where the alpha areas vary less wildly. Compressed to 8bits/pixel.
DXT5 compresses the alpha channels better than DXT3, so it gives better quality for the same filesize. DDS is very close to the format that's stored in the graphics card, and as it supports the generation of mipmaps before loading, it means that there's less for your computer to generate when it loads the textures. As for the blurry texture at a distance, it can be fixed using some LOD I would think (such as changing the texture when you move closer/further away from the point), which is on the todo.
