An essential feature of today’s cryptocurrency markets is high volatility. The prices of crypto assets can rise one day and plummet the next day. While some crypto investors have experienced serious losses, smart investors are using stablecoins to reduce risk.
Taking into account that stablecoins are starting to become truly mainstream, and are turning into a useful tool for managing price volatility and reducing risks, we’ll focus on several important aspects of stable coins that every cryptocurrency investor should be aware of.
What Is a Stablecoin?
Stablecoin is a cryptocurrency which keeps a stable price and is not affected by a rise and fall in the market. Tether (USDT) is one of the most popular stablecoins. It’s a crypto coin that is consistently priced at $1. As the market continues to become unstable and unpredictable, stablecoins are gaining more popularity. The more the crypto price drops, the more people are being drawn towards stablecoins. Investors convert some of their regular cryptocurrency into stablecoins so that even if the market collapses, the actual holding price in USD remains stable.
Imagine this situation. After buying Bitcoin for 5,000 USD, it went up to 10,000 USD, but the market started to crack again. If you keep holding BTC, you may end up losing some of your profit. If you want to keep the dollar value stable, you can invest in stablecoins whose prices rarely change.
What Are The Types of Stablecoins?
There are several types of stablecoins, depending on the backing used to make their price stable:
- Stablecoins backed by fiat.
- Stablecoins backed by crypto.
- Stablecoins backed by assets and commodities.
Depending on the platform used, stablecoins can be based on Bitcoin (BTC), Ethereum (ETH), EOS (EOS), and more.
Stablecoins Backed by Fiat
This is one of the most popular types of stable coin. The crypto coins with fiat backing are the easiest to create because they are pegged to a fiat currency like the USD. This stablecoin is created in such a way that a certain number of currencies (typically USD) are collected, and then cryptocurrencies are pegged at a 1:1 ratio to this backing currency.
Nonetheless, this type of stable altcoin requires regular checks to ensure that the backing currency from which the stablecoin was issued is not removed. This method of creating a stablecoin should involve a third-party custodian who acts as a guarantor that the fiat currency truly supports it. Examples of stablecoins with fiat backing are Tether (USDT), USDC (USDC), and TrueUSD (TUSD).
Stablecoins Backed by Other Cryptos
Crypto-pegged stablecoins are the second type of cryptocurrencies with stable prices. These classes of crypto coins made a recent appearance on the market. Some examples of this type of stablecoin are: Dai (DAI), Ethereum-based stablecoin. EOSDT (EOSDT), USD-pegged decentralized stablecoin based on the EOS blockchain and the Equilibrium framework. Wrapped Bitcoin (WBTC) backed by Bitcoin at a 1:1 ratio.
Stablecoins Backed by Assets and Commodities
These types of crypto coins are backed by commodities, such as gold, silver, oil, and other commodities and assets. The value/price of these stablecoins is, again, stated in fiat currency, typically USD. An example is Digix Gold Token (DGX) where 1 DGX reportedly represents 1 gram of gold on Ethereum.
Stablecoins come with several benefits. Let’s see why stablecoins are popular with traders and the entire cryptocurrency market.
Safety in Unstable Times
The biggest advantage of stablecoin is the fact that it provides security during periods of market fluctuations. This can be seen when the market experiences a sharp collapse. Crypto coins like Tether (USDT) and other stablecoins help traders stabilize during these turbulent times in the marketplace. By ensuring that the price remains stable, the trader’s holdings remain the same. Traders can reinvest in the market when the price starts rising again.
Store of Value
This feature applies to both stablecoins and cryptocurrencies. Nonetheless, one of the great features of stablecoins is that it serves as a store of value and can be utilized as a digital currency, and can be used for buying goods or services online. In this case, stablecoins are especially useful.
By acting as a standard store of value, a stablecoin could be a benchmark in the economy of cryptocurrencies. Given that stablecoin is consistent across a variable dominant market, these collateral-pegged currencies are useful for those searching for a unit of measure to compare market values. Conventionally, the price of stable coins remains unchanged irrespective of the rate the market moves at.
Stablecoin has also been widely used in countries where the government shows less interest in cryptocurrencies. For example, many people in India started buying stablecoins. As the central bank bans transactions with cryptocurrency exchanges, Indian crypto investors are converting their assets into stablecoins.
Stablecoins also have their disadvantages. Let’s take a closer look at some of them.
Dependent on the Asset
These currencies can be risky because they are completely dependent on underlying assets. If the price or value of the underlying asset weakens, it affects the token and all its holders. This is exemplified through the Saudi Riyal fiat currency. Saudi Riyal is pegged to the US dollar, and anytime the global value of the US dollar rises or falls, the same is replicated on the Riyal as well.
Crypto-pegged stakes can be much riskier. If the crypto market falls sharply and the cryptocurrency falls to a very low price, the stablecoin backed by such a crypto will also face a sudden collapse, causing losses.
Not for Investors
Stablecoins are designed to keep their value/price stable which might be a plus for holders (hodlers). But they do not grow in value over time. If you buy stablecoins for 1,000 USD, their value will most probably be the same $1,000 after a year or five years, which won’t give you any profit.
Not Completely Decentralized
For real crypto enthusiasts, decentralization is the key point. But stablecoins pegged to fiat currencies and other assets are not completely decentralized.
Since 2017, there were around 200 crypto projects announced that aimed to bring in their own stablecoins to the market. Many failed, only some made it to the market. Here are the top stable coins based on the ranking on CoinMarketCap in a table:
|Stablecoin||24 Hour Volume1||Market Cap2||Market Rank3|
|Binance USD (BUSD)||923,717,260||676,971,350||#37|
24 Hour Volume1 and Market Cap2: In USD.
Market Rank3: Ranking on CoinMarketCap as of Dec 2, 2020.
Tether (USDT) is a well-known and largely utilized stablecoin. This cryptocoin is fixed to the US dollar at a ratio of 1:1, meaning 1 USDT equals 1 US dollar. The token’s peg to the USD is achieved via maintaining a sum of dollars in reserves that should be equal to the number of USDT in circulation.
Passive Income With Tether (USDT)
Instead of term deposits with returns usually lower than the rate of inflation, you can use staking when you lock your crypto assets at an exchange, typically for a year.
Staking USDT at DEXFIN Exchange earns you 11% per year; on top of that, you can get 11% per year with DEXFIN (DXF) token, 4.8% with BTC, and 20% with VICTORIA VR (VR).
USDC (USDC) is another stablecoin pegged 1:1 to the US dollar. Every USDC in circulation is backed by USD that should be held in reserve, in a mix of cash and short-term U.S. Treasury Bonds. The Centre consortium, which is behind this asset, states that USDC is issued by regulated financial institutions. The Centre Consortium has two founding members – the Coinbase crypto exchange and the peer-to-peer payment services company Circle. This consortium is open to other crypto companies.
Dai (DAI) stablecoin wasn’t launched by a private company but via a software protocol by MakerDAO, a decentralized autonomous organization (DAO). The currency is backed by the US dollar, but it’s fully supported by Ethereum. The price of each Dai is one US dollar. To maintain price stability, DAI is collateralized by a mix of cryptocurrencies that are deposited into smart-contract vaults every time new DAI is minted.
Binance USD (BUSD)
Binance USD (BUSD), launched in September 2019, focuses on maintaining 1:1 ratio with USD. BUSD is a digital fiat currency, issued as ERC-20 token, supporting BEP-2 (Binance Chain Evolution Proposal 2).
TrueUSD (TUSD) is another widely utilized stable coin. TrueUSD is a stablecoin launched by its parent company TrustToken and described as “the first regulated stablecoin fully backed by the US dollar.” This cryptocurrency is fixed at the ratio of 1 TUSD to 1 USD. Nonetheless, with regards to the market cap, it is far from the Tether (USDT), and from USDC.
Diem Coin from Diem Association, formerly known as Libra, is one of the latest additions to stablecoins. Diem Coins are set to be backed by a reserve of assets made up of fiat currencies or cash equivalents and very short-term government securities.
Central banks in over 45 countries (as of May 2020) are exploring ways to create a stable CBDC (Central Bank Digital Currency), often with the use of a limited form of DLT (Distributed Ledger Technology). Some of the reasons for doing so is the issue with the current fiat money printed out of thin air.
Stablecoins Among the Top Players
Stablecoin is a cryptocurrency that differs from others because it comes with a stable value that doesn’t change. Nonetheless, one of the biggest concerns about stablecoins is whether they’re pegged to the fiat currency or the commodity they claim, given that there is considerable ambiguity in investigating and confirming these collaterals.
Currently, Tether (USDT) and TrueUSD (TUSD) are among the top players in the industry, and as additional names like USDC, BUSD, and DAI come up, more and more investors might appreciate the value and usefulness of these stablecoins. As one of the top 10 cryptocurrencies by market value, Tether’s incredible success shows that stablecoin could be an important element to have in your crypto portfolio these days.