Top 5 stablecoins: The bridge between old and new finance
The market for stablecoins – crypto assets backed by traditional financial assets such as the US dollar or gold – has exploded as the coins have gained popularity as a reliable means of trading other digital assets. The boom in retail investing during the pandemic has also led to an increased demand for stablecoins such as Tether (USDT) and USD Coin (USDC) to facilitate trading.
In September 2021, almost 75% of trading volume on crypto platforms involved a stablecoin, according to the ECB report. Moreover, with US dollar-backed stablecoins being increasingly used as a medium of exchange, the use of these stablecoins has grown beyond the cryptocurrency universe to enter the realm of cross-border payments and foreign remittance.
According to data firm Statista, the total market capitalisation of all stablecoins has risen by nearly 600% in the year since the pandemic started in January 2020. At the time of writing, 24 January 2022, CoinMarketCap shows the total stablecoin market cap at $170bn.
How do stablecoins work? Looking beyond the stablecoin definition, we explore the expanding functions and use cases of these crypto assets, assess the risk factors you need to consider when trading them, and offer a brief guide to the list of stablecoins to watch in 2022.
Most stable cryptocurrencies: Creation and uses
What are stablecoins? In brief, stablecoins are cryptocurrencies that hold a stable price and are backed by reserve assets, such as a fiat currency, commodities, or other cryptocurrencies.
Tether (USDT) was the first stablecoin to gain prominence in the crypto universe. According to its white paper, Tether was initially issued on the bitcoin blockchain, and each USDT token is backed in a one-to-one ratio by one US dollar.
Fiat-backed stablecoins like USDT and USD coin (USDC) are the most well-known stablecoins examples. Gold-backed stablecoins, like PAX gold and Tether Gold, represent the value of one ounce of gold, while crypto-backed stablecoins, like dai, are pegged to the US dollar but are backed by other cryptocurrencies.
Stablecoins not only facilitate the trading of crypto assets on exchanges, but they are also an important bridge between the traditional financial system and the decentralised digital blockchain ecosystem.
Stablecoins allow traders to transact across various cryptocurrency markets and blockchain applications without having to deal with financial institutions. Following the developments in the decentralised finance sector, using stablecoins for lending and collateralising loans has become increasingly popular.
The price stability guaranteed by stablecoins makes them a safe haven asset in volatile cryptocurrency markets. Traders and investors use stablecoins to shield themselves from downward market pressures by converting their cryptocurrencies to stable coins to preserve value during market bear cycles.
Since stablecoins are designed to maintain their value, they are not considered investment assets but rather facilitators of trade and payment tokens. Market participants can earn returns on their stablecoins by staking them and providing liquidity to various decentralised finance applications across the blockchain.
For example, crypto platforms Nexo and Crypto.com give users 12% interest on staking stablecoins, depending on certain conditions being met.
Risks involved: tether controversies, transparency issues
The US Department of the Treasury cited numerous risks posed by stablecoins in its latest report, saying:
Authorities argue that if the market loses its confidence in the belief that stablecoins are redeemable, fire sales of reserve assets could occur, adversely affecting financial systems and the broader economy.
The US Commodity Futures Trading Commission (CFTC) revealed in October 2021 that tether’s reserves had not been “fully-backed” between 2016 and 2018. As such, the stablecoin had misrepresented itself to the market by claiming it had sufficient US dollar reserves to back every USDT in circulation.
“As found in the order, tether held sufficient fiat reserves in its accounts to back USDT tether tokens in circulation for only 27.6% of the days in a 26-month sample time period from 2016 through 2018,” the CFTC said after it fined tether and Bitfinex $42.5m for misleading statements related to USDT.
In December 2021, tether confirmed that another action had been brought against it, in what it called a “nonsense, copycat lawsuit”.
Last Friday another nonsense, copycat lawsuit was filed by 2 Plaintiffs and their law firm looking for a payout based on meritless claims. We will aggressively litigate and dispense with the action in due course. https://t.co/u5qemzvVTM
— Tether (@Tether_to) December 13, 2021
Looking at stablecoins as a whole, Lark Davis, a cryptocurrency expert, said
Increasingly wary of the dangers of stablecoins, including their potential use in money laundering and financing terrorism, governments are working to introduce regulatory frameworks to control cryptocurrencies. Authorities across the world have already begun work to create digital currencies backed by central banks. China, having outlawed cryptocurrency transactions and mining in 2021, has taken an early lead with the introduction of its digital yuan.
Financial services company Wells Fargo recently voiced the concerns of many in its note to investors: “If the explosive growth that stablecoins have enjoyed in recent years continues in coming years, then periods of financial market volatility could potentially become extreme.”
Lark Davis is uncertain what a more regulated future would mean for stablecoins. “One wonders if the eventual introduction of the US government-backed digital dollar might be the solution that regulators are really looking for. The big question is whether it would eliminate the need for stablecoins such as tether and USDC. Only time will tell,” he said.
Top 5 stablecoins to watch: Leaders by market cap
If you are thinking of investing in stablecoins in 2022 for staking or to facilitate trade, here are the top five stablecoins by market capitalisation, according to CoinMarketCap as of 24 January 2022.
Tether (USDT)
USDT is the most widely used and oldest stablecoin with a market capitalisation equalling nearly 50% of the entire stable coin sector. Overall, USDT is the third biggest cryptocurrency behind bitcoin (BTC) and ether (ETH) as of 24 January.
“One of the main reasons that Tether has remained so dominant is its superior liquidity compared to other stablecoins,” the Bitstamp and CoinMetrics report states.
After being initially minted on the Bitcoin blockchain, the number one stablecoin launched on the Ethereum blockchain in 2017 and on TRON in 2019. According to Bitstamp, the Ethereum and Tron versions of tether have since surpassed the original version in terms of the total supply.
USD Coin (USDC)
USD Coin (USDC) is the second biggest stablecoin globally. The founding members of USDC are peer-to-peer payment services company Circle and Nasdaq-listed crypto exchange Coinbase.
USDC differentiates itself from USDT by providing full transparency and publishing attested reports regarding its reserve balances.
Currently, USDC smart contracts are available natively on various blockchain networks, including Ethereum, Algorand, Solana, TRON and Stellar, according to its website.
Binance USD (BUSD)
BUSD is the third biggest stablecoin in the world, with a market capitalisation of over $14bn.
The USD-backed stablecoin issued by crypto exchange firm Binance saw strong growth in 2021. The stablecoin grew from a market capitalisation of $1bn at the start of the year to over $14.6bn by the end of 2021, according to CoinMarketCap.
According to its website, “BUSD is a 1:1 USD-backed stablecoin approved by the New York State Department of Financial Services (NYDFS), issued in partnership with Paxos.”
TerraUSD (UST)
TerraUSD occupies the fourth place in the list of stablecoins to watch with a market capitalisation exceeding $11bn (as of 24 January).
UST is an algorithmic stablecoin of the Terra blockchain. Its value is equal to the face value of minted stablecoins. To issue one TerraUSD, you need to burn one LUNA reserve asset.
Dai (DAI)
MakerDAO is an open-source project on the Ethereum blockchain and is the entity behind the dai stablecoin. According to its white paper, the dai stablecoin is a decentralised, unbiased, collateral-backed cryptocurrency soft-pegged to the US dollar.
On the Oasis Vault portal, users can choose from 25 different cryptocurrencies, including ether, USDC, chainlink and wrapped bitcoin, among others, to deposit as collateral to borrow dai.
As of 24 January, the stablecoin had a market capitalisation of $9.6bn. Note that crypto-backed stablecoins are not as stable as fiat-backed stablecoins due to the higher volatility of the underlying asset.
What does the future of stablecoins hold?
Is there room for further growth? Caitlin Long, founder and CEO of Avanti Financial Group, shared some stablecoin predictions with Cato Journal.
“Stablecoins will grow big enough to start gumming up monetary policy within five or so years, assuming they’re not brought inside the banking system before then …Owing to payment system risk, the cash collateral managers of stablecoin collateral will be mostly non-lending banks,” she said.
“Consequently, central banks will allow non-lending banks to issue stablecoin‐like instruments,” she added.
Viktor Prokopenya, the founder of Capital.com, also believes stablecoins could be an opportunity for some banks.
“If a major bank were to launch their own coin, this would undoubtedly generate a lot of positive traction,” he said in an interview with Justin Pugsley. But he warned there could still be the issue that it would connect the bank to the world of cryptocurrencies, which remains underregulated.
If you’re exploring stablecoins or any crypto assets, it’s always important to do your own research. Consider the latest market trends, a projects’ fundamentals and expert opinion before making your list of best stablecoins to invest in. Keep in mind that trading any crypto assets, including stablecoins, is risky. And never invest more than you can afford to lose.
FAQs
Are stablecoins safe?
Unlike other cryptocurrencies that operate in a decentralised environment, stablecoins are overseen by a central authority to maintain value and provide liquidity. Considered safe-haven crypto assets, they still contain risks due to their less volatile nature. You should always perform your own due diligence of any stablecoin and the project behind it to build your own view.
Is bitcoin stable?
Bitcoin is not a stablecoin and is not backed by an underlying asset. Bitcoin’s price movement is known to be highly volatile.
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