Welcome to our Crypto Insider for March 4th, 2022 – FREE Edition.
You are receiving this newsletter because you follow the NFT topic or because you’ve already signed up for Crypto updates.
Today’s is another special issue – we are looking at stablecoins. You may have heard about the term “stablecoin” and got confused – cryptocurrency is anything but stable. In this issue, we’ll give you the 411 on stablecoins and the importance of these contradictory named cryptocurrencies.
The Importance of Stablecoins
Before we begin, I’d like to call out what’s going on in the world. Talking about price action and cryptocurrency seems trivial compared to the Russian invasion of Ukraine. If you wish to donate, you can do so over several platforms. Still, since this is a cryptocurrency article, we’ll highlight the option to send $BTC and $ETH directly to the government of Ukraine and its wallets, which were posted on Twitter.
What was surprising about Russia’s invasion on the 21st of February 2022 was that it did not actually affect the price of cryptocurrency much. In fact, it goes against the typical finance adage, as depicted in this meme:
While the price of cryptocurrencies went down about 10% from the news, it is surprising it didn’t go lower, as many expected. Instead, cryptocurrency prices rallied in less than 24 hours of the invasion, and today prices are close to monthly highs.
What are Stablecoins?
This is actually why stablecoins were created – to have a coin’s value pegged to a particular market value beyond cryptocurrency and in the real world. For example, values can be pegged to the US Dollar, Euro, or even the cost of gold. Stablecoins’ biggest value proposition is that they help increase liquidity in cryptocurrency.
This pegging helps adopters navigate the volatility of the cryptocurrency markets. In fact, many people have argued that $BTC would never see mass adoption as a currency because of its volatility. After all, if you plan on spending your $BTC, it can be frustrating being unable to know its purchasing power in a day, a week, or a month.
The most popular stablecoins are those pegged to the USD. Often seen as the gold standard of fiat, US Dollars are sought out by people from every corner of the world. Until the development of stablecoins, it was difficult for people in many countries to use USD. However, through stablecoins, it is possible to get the same benefits.
In the first chart regarding $BTC (considered one of the most stable coins in cryptocurrency), we see up to 40% fluctuations. However, in the 2nd chart with $USDC, we see less than .2% fluctuations.
Now you may ask, “But Colin, if $USDC is a stablecoin pegged to the USD, why does it even fluctuate? Shouldn’t it be a flat line always at $1.00?”
The answer is yes, it should be, but we won’t go into detail here. We’ll explain this more in the risks section below.
Real-world Application and Benefits
Stablecoins Help Fight Volatility
They have a lot of value in countries with volatile currencies.
While the $RUB isn’t particularly volatile, we’ll use it as an example due to current events.
Imagine you are living in Russia, which uses the $RUB as its primary currency. Well, due to recent news, the value of the $RUB tanked more than 90% in the past week, and your savings along with it:
However, imagine you had the foresight and wanted to move your savings to a more stable asset. Straight $USD is ideal but not always possible, so what’s a good alternative?
How about a stablecoin pegged to the $USD, which would hold the same monetary value as $USD? That way, you are no longer exposed to $RUB but $USD instead. You’d keep your savings while your neighbor’s savings got wrecked.
Not everybody would have had the foresight that the $RUB would tank. Still, plenty of people in countries with volatile currencies keep their savings in stablecoins for this or similar reasons.
What is more, stablecoins Help You Avoid Centralized Exchanges
Cashing out of crypto is a pain in the ass if you want fiat because you have to go through a centralized exchange such as Coinbase or Kucoin. In most countries, this means getting your earnings reported and taxed. Before stablecoins, this made people decide between two choices:
- Should one keep their $$ tied in volatile cryptocurrency, or
- Should one convert it to more stable fiat and alert the government of their cryptocurrency activity?
Stablecoins allow people to “cash out” into less volatile assets such as USD without going through a centralized exchange.
A very popular use case is to convert some tokens into stablecoins before or during a bear market. This way, their money in stablecoins remains the same even while other cryptocurrencies go down, allowing savvy individuals with good foresight to buy back coins at a lower price.
For example, Bob has 1 $BTC worth $40,000. He expects a bear market to hit in the next seven days and converts it all to 40,000 USDC worth $40,000. Bob is smart and lucky!
After a week, $BTC starts plummeting, and a month later, 1 $BTC is worth $30,000 USD. Bob is confident this is the bottom and decides to buy $BTC with all of his USDC, still worth $40,000, resulting in 1.333 $BTC.
With 1 $BTC being $30,000 he has $40,000 worth of $BTC.
Had he never converted his 1 $BTC to stablecoins, and he had just left it, he’d still just have 1 $BTC with $30,000.
Types of Stablecoins
- Fiat Stablecoins – Stablecoins that are pegged to fiats such as USD or Euros. Two of the most popular stablecoins are USDC and UST, pegged to the USD.
- Crypto-Backed Stable Coins – stablecoins backed by cryptocurrency. $OHM (Olympus) and other $OHM forks all aim to be crypto-backed stable coins. These are ambitious projects, and while they are still new, many doubt their ability to succeed.
- Algorithmic Stablecoins – They use price stabilization algorithms to keep the value of an asset, usually at $1.00 USD. An example of a popular one is $MIM.
Examples of Stablecoins
Another extremely popular stablecoin pegged to the USD, is $UST.
Risks of Stablecoins
Stablecoins are pegged to a value, but some things that can cause a de-pegging.
Even though stablecoins are mostly stable, they very rarely equate to the exact value they are pegged to, i.e., the USD. Remember how we brought this up?“Now you may ask, “But Colin, if $USDC is a stablecoin pegged to the USD, why does it fluctuate? Shouldn’t it be a flat line always at $1.00?” The answer is yes, it should be, but we won’t go into detail here. We’ll explain this more in the risks section below.”
Well, there are a number of risks to stablecoins that can cause even more fluctuations or cause a stablecoin to lose its peg.
- Questionable reserve of assets – this happened with $TETHER. While it remains fairly stable now, $TETHER’s past is controversial. The project is lucky that it was able to rebound – otherwise, it may have been shut down or permanently unpegged.
- Many stablecoins are centralized, which goes against one of the main benefits of cryptocurrency of decentralization. Any assets that are centralized can be frozen and taken away – even some stablecoins.
- Regulation – the whole cryptocurrency world is being looked at closely and stablecoins certainly face some scrutiny because of the liquidity they provide that enables bad actors on the blockchain. There is concern about future government regulation.
- Smart contract risk – essentially code/software risk. However, this applies to all cryptocurrencies.
Stablecoins are very important to the cryptocurrency ecosystem. They serve as a reliable cryptocurrency whose value can be counted on – something everybody can benefit from.
While they have many real-world benefits, there are certainly risks to using them. But despite these risks, stablecoins are here to stay and will forever remain critical to cryptocurrency.
Disclosure: This article is for entertainment purposes ONLY. I am a holder of $FTM, $AVAX, and am long cryptocurrency.
I’d love to hear your thoughts on this issue.
Was it helpful? Are there elements of crypto, coins or investing strategies you’d like to see covered?
The Discord invite is always open – with more and more folks joining each day, it’s a great place to ask questions and get answers, whatever your knowledge level.