Stablecoins are digital currencies pegged to a stable asset class. In other words, the value of the stablecoin is derived from the value of the underlying asset.
In case of USD-backed stablecoins, it means a token of the stablecoin is pegged directly to the US Dollar.
What is a stablecoin?
Stablecoins have been around for some time, and there are several of them, including USDT, USDC, UST, BUSD, DAI. Although each may have slightly different properties, the purpose of a stablecoin is to allow investors to move in and out of different cryptocurrencies quickly and easily, without having to convert back to fiat currencies, like the US dollar, the Euro and so on.
The need for a stablecoin is due to the volatility of cryptocurrency prices since large and irregular movements are quite common in the world of digital assets. In the last 24 months alone, Bitcoin prices have seen wild swings, ranging from $4000 to over $69,000.
Stablecoins also allow fast cross-border transactions, without the need for conversion into a secondary currency or involving any intermediary.
How do stablecoins differ from other cryptocurrencies?
Stablecoins are cryptocurrencies. But unlike other cryptocurrencies, the value of a stablecoin is designed to remain pegged 1:1 (or as close as possible) to its underlying asset.
Stablecoins are not designed to be speculative, and do not have any other purpose other than being used as a pegged token to be used in the crypto world.
How do stablecoins work?
Put simply, the stability of a stablecoin relies on the underlying asset, most commonly, the US Dollar. If the stablecoin is pegged to USD, each token of the stablecoin is theoretically supposed to be equal to a U.S. dollar (or any other fiat currency or tangible commodity).
This is what makes it so useful in the highly volatile crypto market, as traditional cryptocurrencies such as Bitcoin, Ethereum, and Ripple have regular and often wild price swings.
Such swings creates an enormous amount of speculative value in the market. Hence, as a particular cryptocurrency increases in value, moving into a stablecoin and waiting for the price to correct provides crypto traders with a simple way of realising profits without the need to do back and forth to and from fiat.
Why are stablecoins important?
With a stablecoin, you have a near-perfect financial system bridge from fiat currency into crypto, but only if you can be sure that the value of your stablecoin is pegged to a strong asset.
These are called assets backing stablecoins. If it isn’t, you are exposed to significant risk, and this is where the challenges start to arise in stablecoins.
Why stablecoins are attractive
The implementation of a stablecoin as a mode of payment is growing in popularity as it offer many advantages over conventional payment methods:
Users do not have to worry about losing their money due to the possibility of their bank collapsing as seen in the 2008 financial crisis.
Stablecoins are beyond the control of governments and financial institutions, with holders effectively being their own banks. That said, many governments are now actively investigating the use of digital currency, including stablecoins, as a means of replacing or upgrading the current monetary system.
Stablecoins are a preferred mode of cross-border payment as it is fast, cheap, and is not subject to cash controls which are sometimes imposed by governments.
Providing liquidity to stablecoins are becoming more and more common these days since investors get a better ROI than a traditional Fixed Deposits.
Problems with stablecoins
The main reason some stablecoins are problematic lies in the fact that the tokens need to be backed by an asset that has value in the real world, which could be a fiat like USD or commodity like gold.
However, some of the world’s top stablecoins are unable to prove that they have sufficient asset backing or cash reserve, and this leads to potential risks for users.
One of the most notable cases involves the leading stablecoin Tether, which recently paid a $41 Million dollar settlement because the company was unable to demonstrate collateral for over 70% of their tokens.
Furthermore, many stablecoins are issued by private companies with centralized governance, issuance, and overall control; these are called stablecoin issuers.
This shows a potential lack of transparency and accountability to the community which uses such assets, something which is especially important to many users in the crypto world.
How to buy and store Stablecoins?
When it comes to buying and using stablecoins, you can use any exchange such as Hitbtc, Binance, and Okex, or through a DEXs ( Decentralized Exchanges) like Uniswap, Sushiswap, etc.
Once you buy from an exchange, it will appear in your exchange wallet, which you can transfer to an off-exchange wallet (which is always recommended for personal security).
Some platforms like MoonPay, Wirex and Crypto.com also allow you to buy stablecoins directly from your bank or use a credit or debit card, including.