Your most comprehensive guide to stablecoins
The term stablecoin refers to any cryptocurrency coin or token pegged to an asset with a relatively stable price, such as fiat currencies or gold. A stablecoin can be under control of a central entity, such as Tether (USDT), or a Decentralized Autonomous Organization (DAO), such as Dai, a stablecoin which is issued on the Ethereum network. Nubits is another stablecoin which is partly controlled by a DAO, but is also under control by a central authority, representing a hybrid issuance model.
The term stablecoin refers to any cryptocurrency coin or token pegged or backed by an asset with a relatively stable price, such as fiat currencies or gold. A stablecoin can be under control of a central entity, such as Tether (USDT), or a Decentralized Autonomous Organization (DAO), such as Dai, a stablecoin which is issued on the Ethereum network. Nubits is another stablecoin which is partly controlled by a DAO, but is also under control by a central authority, representing a hybrid issuance model.
A stablecoin is typically backed by a reserve asset that has the exact equal value of the coin/token. The reserve can be a fiat currency, a precious metal (e.g. gold), or a cryptocurrency. The issuer, whether it is a central entity, or under control of a DAO, should only issue an amount of stablecoins equal to the reserve they own. New coins can be issued only when the reserve grows.
How do we define stability?
What is stable? To be considered stable, a currency or asset’s value has to experience only minor fluctuations, such that its value remains relatively steady over time. Is bitcoin stable? As of yet, we have not seen bitcoin stable in terms of value.
Why do we need stablecoins?
Why are we seeing so much interest in stable crypto? The truth is that while the volatility of cryptocurrency values makes them a popular choice for those who enjoy high-risk investments, this volatility isn’t ideal for those who actually want to use their cryptocurrency. Until we start to see a stable BTC value, people are going to look for alternatives. A stable coin can be seen as an attempt to marry the best parts of digital currencies with the relative stability of real-world assets.
The four most common uses of stable cryptocurrency are as follows:
- To create stability in cryptocurrency trading pairs in forex-style trades. Tether (USDT) was frequently used for this purpose, though recent concerns about that currency (explained later in this article) has lead to many exchanges replacing it with other stable coin options.
- Professional investors and hedge funds can use stablecoins to diversify their portfolios in times of market instability. You’ll see institutional investors in the coming months and years trying to determine what is the most stable cryptocurrency to use for this purpose.
- Because a stablecoin has a steady and predictable value, it can be used for transactions as easily as a fiat currency. Those with an interest in seeing mass adoption of cryptocurrency see stablecoins as a natural step towards this goal.
- Similarly, their stable value makes stablecoins the ideal medium for recurring payments such as salaries and rent. The current volatility of major cryptocurrencies can make it difficult to use them for monthly payments, as the value can swing wildly from month to month. Stablecoins may be especially attractive to blockchain startups who want to make a statement by paying their teams in cryptocurrency.
Let’s take a look at some of the most popular stablecoins across the cryptoverse.
Tether (USDT) is a stablecoin that is issued by Tether Limited, which claims that each USDT is backed by one USD (often cited when making a stable currency definition). However, the company has never managed to provide audits for the token’s USD reserve. Most cryptocurrency experts believe that Tether Limited was printing millions of Tether that had no USD backup. The main objective of USDT is to facilitate exchange transactions between cryptocurrencies and fiat currencies with a rate pegged to the USD.
USDT is issued on Bitcoin’s blockchain via the Omni Layer Protocol. Tether Limited claims that each USDT is backed by one USD held in the company’s reserve, yet users cannot necessarily redeem them via the Tether Platform or partnering exchanges. USDT can be stored and transacted just like any other cryptocurrency. To transact and store Tether, users have to have an Omni Layer-enabled wallet such as Holy Transaction, Ambisafe, or Omni Wallet. USDT offers an alternative means to Proof of Solvency via introduction of a Proof of Reserves process.
The USDT Proof of Reserves system, the number of USDT tokens in circulation, can be checked on Bitcoin’s blockchain via the tools available on Omnichest.info. The amount of USD comprising the backup reserve can be proven via publishing the company’s bank account balance and undergoing periodic audits performed by professional auditors, who publish the financial transfer statement and the bank’s account balance of Tether Limited.
During the period between January 2017 and September 2018, the volume of circulating USDT rose from around $10 million to more than $2.8 billion. During the early months of 2018, USDT represented around 10% of bitcoin’s total trading volume, yet during the third quarter of 2018, it accounted for around 80% of bitcoin’s trading volume.
In June 2018, USDT was the tenth biggest cryptocurrency by market capital. Researchers and crypto experts proposed that a price manipulation scheme that exploited USDT, accounted for around 50% of the rise in bitcoin price during the fourth quarter of 2017.
To solve the problems associated with USDT, USDX was created to bridge the gap between cryptocurrencies and fiat. The USDX token is pegged to the USD via a novel logarithmic protocol, mitigating the risks that accompany the usage of USDT or other stablecoins.
USDX promotes stability of its value through its algorithmic central bank, which boosts and reduces the total supply of USDX tokens to match the value of USD in real time. A market price feed is delivered via Oracle Feed, which extracts price data from multiple exchanges. To boost transparency, exchange rates have to be accepted or dismissed via randomly selected token holders. Through this process, the system boasts a decentralized, trustworthy means to accommodate value indicators.
Despite the fact that USDX is not the only stablecoin that utilizes a transparent, elastic supply mechanism, its founders claim that it promotes superior decentralization and stability via its innovative algorithmic protocol.
TrueUSD (TrueCoin) was developed to solve USDT’s problems, as it is based on regular auditing, maximum levels of transparency, full backup reserves (collateral), and legal commitment to exchange TrueCoin tokens to USD whenever needed. The company plans to create stablecoins pegged to the Euro, Yen, precious metals (gold and silver), and other assets (real estate, stocks, etc).
While USDT is marked by a centralized and suspicious architecture, TrueCoin has partnered with a wide range of chartered banks and trusts to make sure that there is a transparent reserve of USD backing up the stablecoin. The strong legal architecture of TrueCoin represents a clear improvement upon the questionable nature of USDT. When you buy a TrueUSD token, you are legally an owner of one USD that is fully redeemable upon request.
Reliance on unrelated assets such as fiat currencies or altcoins poses a serious challenge when it comes to the development of stablecoins. Havven was established to provide the market with a decentralized payment network and a stablecoin solution that defies volatility. nUSD is Havven’s first nomin, which is a stablecoin pegged to the USD. Havven is planning to issue nomins for several fiat currencies, towards the end of 2018, including nGBP, nEUR, nJPY, and nAUD.
Havven’s system is based on a dual token design that offers a stablecoin solution that is on-chain, asset backed, and decentralized. Nomins are backed up by the value of the system’s collateral token, havven. The value of havvens originates from fees charged by nomin transactions, which reward holders of havven tokens for staking their tokens. Overall, nomins’ value is stabilized via nomin holders, who are rewarded with the ability to control the overall supply via the percentage of fees they receive. Havven, the company, holds 80% of the total supply of havven tokens in escrow, to shield the system against the aftermaths of price drops accompanying large scale sell-offs.
Havven is endorsed by a group of the world’s top cryptocurrency investors and funds, including AlphaBlock Investments, BlockTower Capital, and GBIC. Furthermore, the company has also announced future partnerships with some projects that will rely on nomins for providing a stable medium for transacting including intimate.io, MARKET Protocol, Swapy, and others.
Rockz is a stablecoin that is pegged to arguably the world’s most stable currency, the Swiss franc (CHF). For every Rockz token issued, one CHF is held as a backup reserve, legally enforceable by the company. 90% of the total CHF backup reserve of Rockz is held in paper form and stored in vaults secured high in the Swiss mountains. The remaining 10% is held in some of Switzerland’s most trusted and secure banks to promote liquidity.
Every holder of Rockz tokens has the full enforceable legal right to the corresponding amount of CHF. As such, in the event of the company declaring bankruptcy, token holders will have direct access to their funds secured in the vaults and/or Swiss banks.
Every month, Rockz’s holdings are audited via a trusted third party auditor, so that token holders are transparently assured that 100% of their investments are solidly backed by the CHF collateral. Rockz is a stablecoin that can help crypto investors ride out periods of extreme price drops without having to convert their crypto holdings to fiat and deal with high fees and taxes.
DAI has been issued to solve some of the problems associated with stablecoins, especially those pegged to fiat currencies. Mainly, whenever a stablecoin is backed by fiat currencies saved in bank accounts, manipulation and legal actions taken against the holder of the bank accounts will jeopardize the token’s value.
The creator of the MakerDAO coin solves this problem via the use of Ethereum’s smart contracts to promote stability. Instead of purchasing DAI coins, users create it after locking up their ETH in the Maker system. When a user doesn’t need their DAI coins any more, the CDP smart contract will return to them the same amount of ETH that was collateralized. To mitigate the problems associated with ether’s price volatility, DAI boasts an automatic liquidation process whenever ether’s price drops. The ETH locked up by the CDP smart contract is proactively auctioned off right before its price falls below the value of the DAI it backs up.
Basecoin’s approach to stablecoins is very innovative. In contrast to other stablecoins, the concept behind Basecoin is very simple. Basecoin’s value is pegged to either an asset or an index, such as the Euro, USD, Consumer Price Index, SP500, or others. Via continuous monitoring of price feeds, the total supply of Basecoins is automatically modified to offer a stable value.
Basecoin also relies on another pair of currencies; Base Shares and Base Bonds. These currencies serve as an economic incentive for holders of the token to adjust the token supply by exchanging their Basecoins for bonds, which opens the door to users to earn profits on their investments. Shares are issued whenever the supply has to be boosted. Both of these processes promote the stability of Basecoin’s value.
Even though Basecoin will be initially pegged to fiat currencies, this is planned to shift to an index offering promoting decentralization of the whole system, price stability, and complete independence from reliance on fiat for token pegging.
DigixDAO was the first company to issue a stablecoin pegged to gold. DigixDAO issued two tokens on Ethereum’s blockchain; DGX and DGD. One DGX token has the value of 1 gram of gold, and is backed up by real gold. DGD tokens offer their holders voting power that is proportionate to the amount of tokens they hold.
Seigniorage Shares is a non-collateralized stablecoin. It is intended to form a central bank via smart contracts that can continuously issue a currency with a value of $1 to control the overall supply. The smart contract is programmed to issue new coins and offer them for sale whenever the price skyrockets, until the price drops back down to $1. As such, the smart contract will generate profits. On the other hand, buying Seigniorage Shares coins takes place to reduce supply, which will lead to a rise in price.
Basis.io is an algorithmic stablecoin offering, designed to expand and contract supply, similar to the way central banks buy and sell fiscal debt. The intention is therefore to stabilize purchasing power, as when demand rises, the blockchain will create more Basis. This expanded supply is designed to then bring the Basis price back down. It’s important to note that there are no tangible assets with Basis, but the system creates incentives designed to build up a stable equilibrium for the currency. The more that Basis grows, the stronger its status as a potential medium of exchange, and the stronger its stable equilibrium. The company has raised $133M from an impressive list of top VCs.
This is another stablecoin which expands and contracts supply algorithmically, with a Stability Reserve intended as a decentralized guarantee of solvency. Most central banks maintain reserves via foreign currency and gold, and similarly, Terra’s Stability Reserve finances contraction of the Terra money supply whenever necessary. The company has the ambition of Terra becoming a global currency, and it is designed for mass adoption, with an eye to making everyday transactions possible. Terra has raised $32M from Exchanges and VCs.
Other stablecoins that are backed by crypto include Shelling Coin and TruthCoin. Digix Gold and OneGram are backed by gold. Kowala, Stably, Augmint, Carbon, Nubits, Gemini dollar, Paxos, Nushares and USDC are stablecoins pegged to the USD. GJY is a stablecoin backed by Japanese yen. EURS which is stable crypto backed by EUR
Even though some of the stablecoins discussed might seem promising, picking the winning horse among them can be quite confusing. Governments might have begun to accept cryptocurrencies, especially in that they support the shift towards a cashless society. However, the high volatility of crypto and the fact they are non-collateralized currencies are the main reasons that governments remain reluctant to accept mass adoption of crypto. As long as governments have to ask “How stable is bitcoin?” we can’t count on them to trust it. Stablecoins might be the answer to governments’ fears, but we have yet to witness the birth of a stablecoin that perfectly adheres to the principles of the blockchain technology: decentralization, full transparency, optimum security, and immutability.
This article is part of Cointelligence’s Stablecoin Week! For more information and opinions about stablecoins, see What does ‘stable’ mean? and Subjecting stablecoins to the duck test and A stablecoin fairytale.