One of the biggest hurdles to cross when it comes to achieving mass adoption for crypto assets is their volatility. It is common to see the price of any given cryptocurrency fluctuate wildly. While potential gains have climbed to levels that you would almost never see in traditional financial markets, market corrections and falling prices can also hit investors hard.
In the face of this, programmers have created what we call the ‘Stablecoin.’ As its name implies, its value largely remains stable over time. But with that in mind, how do these coins actually work, and how can one stand to benefit from them? Read on and find out how exactly these assets are shaking up both the traditional finance and cryptocurrency worlds.
What are Stablecoins?
Stablecoins are cryptocurrencies that aim to maintain a consistent value over time. This value is kept constant by pegging the value of the Stablecoin to another asset, such as state-backed fiat currency, other types of traditional assets, or even another cryptocurrency. In most cases, this assures its holders that their assets will not dramatically rise and fall in value.
There are three main types of stablecoins – fiat-collateralized stablecoins, crypto-collateralized stablecoins, and non-collateralized stablecoins. The difference between these three types of coins mainly lies in the type of asset their value is pegged to.
Fiat-collateralized stablecoins are those that are backed by the currency of a state, such as the US dollar or the Euro. Some examples of this include Tether (USDT), USD Coin (USDC), and the Gemini Dollar (GUSD), all of which are pegged to the US dollar.
On the other hand, crypto-collateralized stable coins are pegged to the value of other cryptocurrencies. These differ from fiat-collateralized stablecoins in that they are less vulnerable to a central point of failure. However, given that they are pegged to cryptocurrencies, they may end up being subjected to some degree of price volatility. Examples of these include DAI, which uses Ethereum’s value and smart contract technology to stabilize the coin’s value.
Lastly, there are non-collateralized stablecoins that do not involve the use of any asset. Instead, their stability is derived from technology and existing working mechanisms, such as existing banks or even carbon markets. Some examples of these include Carbon (CRBN) and Basis (BAS).
The Benefits of Stablecoins
Given the largely consistent value of these assets, you probably would have figured out that investing in these coins won’t make you money in the same way that other coins will. That’s precisely the point – the benefits of these coins don’t come from their increases in value. Instead, their main draw is that they open up access to a range of financial services and other means of earning returns on your investment.
People have often envisioned cryptocurrencies as an alternative means of storing and transacting value. This is especially so for individuals who have grown disillusioned with the inefficiencies and high fees of cross-border banking transactions today. Through using stablecoins to transfer money from one party to another, these inefficiencies can be avoided, and the fees can be saved.
Use Cases of Stablecoins
Stablecoins are used in a whole range of financial services. Payments to merchants and remittances from overseas workers trying to send money home are amongst some major use cases for stablecoins.
Beyond this, stablecoins are also widely used for borrowing and lending purposes, both on Centralized Finance (CeFi) and Decentralized Finance (DeFi) applications. These coins have unlocked high-yield opportunities for their holders on a variety of platforms. Individuals who offer their stablecoins for P2P loans often obtain double-digit rates. At the same time, platforms that provide centralized crypto-backed loans, such as Nebeus, offer users loans in either fiat or stablecoins. If users choose the latter, they can deposit the stablecoins obtained into another protocol to generate interest or use them in any way they desire. This is as long as the loans are ultimately paid back according to the term.
Finally, Stablecoins can also serve as a store of value to hedge against the volatility of blue-chip crypto assets. While assets like Bitcoin and Ethereuem are undeniably well-established, it is clear that they are still subject to unpredictable market forces. As a result, a common trading strategy for investors is to allow their investments to appreciate before converting them back to stablecoins. This is a more long-term investment strategy that is often referred to as HODLing in the crypto world.
Ultimately, stablecoins present the fascinating possibility of bridging the gap between the mainstream masses and cryptocurrencies. While the final outlook of this asset class might ultimately be subject to how governments all over the world treat it, the future looks bright for now. There’s more to cryptocurrency than just Bitcoin, and Stablecoins show us precisely that.