Stablecoin: What It Is & List Of Top Stablecoins
Stablecoins are kinds of cryptocurrency whose value is pegged to a fiat currency like the U.S. dollar, other cryptocurrencies, or a commodity like oil or gold. They provide users with the benefit of the security and immediate payment processing that digital currencies offer, without the price volatility of traditional cryptocurrencies.
Violka08/iStock via Getty Images
What Is a Stablecoin?
While many people use or invest in cryptocurrencies, one major downside is that traditional cryptocurrencies like Bitcoin (BTC-USD) sometimes experience periods of high short-term volatility. For people who prefer to use cryptocurrencies to purchase goods or hold money, highly volatile currencies might carry too much risk. Stablecoins were created to provide more stability. How much more stability is up for debate as the theoretical benefits of stablecoins may not translate to the real world.
Unlike traditional cryptocurrencies where the valuation is determined by the market, the value of stablecoins is pegged to a fiat currency like the U.S. dollar or the Euro, or backed by a commodity like gold, precious metals, oil, other cryptocurrencies, or real estate. For that reason, stablecoins are intended to offer consumers a bit of both. They provide purchasers the ability to transfer money instantaneously, privately, and securely without fear of traditional cryptocurrency volatility eroding their purchasing power between the purchase of their digital coin and the moment it is spent or used to buy more cryptocurrencies. It also allows investors on cryptocurrency exchanges to hold or pay with something close to fiat money since many crypto exchanges do not support fiat currencies.
How Stablecoins Works
A stablecoin’s value is pegged to a fiat currency or asset through collateralization that is equal to the value of the existing cryptocurrency on the market. For example, a collateralized stablecoin backed by U.S. dollars would hold an inventory in U.S. dollars that is equal to the value of the coins in circulation.
Similarly, a stablecoin backed by commodities would have an amount of gold or oil in reserve that is equal in value to that of the stablecoins in the market. These are collateralized stablecoins. There are some—non-collateralized stablcoins—that aren’t backed by reserves but provide stability via an algorithm.
How Collateralized Stablecoins Work
With collateralized stablecoins, when investors purchase $100 worth of stablecoin, the company creates the equivalent value in stablecoin. When investors sell $100 worth of the coins, the company destroys the equivalent value of stablecoin. This is more complicated when a stablecoin is backed by a commodity like gold, and gold must be acquired or sold to keep their collateral equal to their currency.
Note: This makes the work of the companies that manage these coins more centralized than most cryptocurrency companies since they have to carefully manage their collateral.
How Non-Collateralized Stablecoins Work
With non-collateralized stablecoins, an algorithm controls the coin to create a steady stablecoin price. What often happens is that the algorithm increases or decreases the supply of a stablecoin as demand increases or decreases. However, this doesn’t always work and there are some algorithmic coins that have not been able to stay pegged to their underlying currency or commodity.
Types of Stablecoins
1. Collateralized Fiat
A collateralized fiat stablecoin is one that is backed by a fiat currency like the USD or the Euro. That means that it holds an equivalent amount of that currency as there are stablecoins circulating. The collateralized fiat stablecoin with the largest market cap is Tether (USDT-USD), which is pegged to the USD and has the largest trading volume among stablecoin offerings.
2. Collateralized Crypto
A collateralized crypto stablecoin is one that is backed by one or more cryptocurrencies. That means that the stablecoin issuer holds an equivalent amount of other digital currencies as there are stablecoins circulating. An example of a collateralized crypto stablecoin is Dai (DAI-USD).
3. Collateralized Commodity
A collateralized commodity stablecoin is one that is backed by a reserve of a commodity like gold, real estate, oil, or precious metals. That means that the issuer will also hold an equivalent amount of physical assets as it has currency in circulation. One example of a collateralized commodity stablecoin is Paxos Gold (PAXG-USD). When one sells a Paxos Gold stablecoin, the seller can choose to take cash or the gold underlying their investment.
2. Algorithmic
Algorithmic stablecoins are those that are not backed by fiat, commodity, or crypto collateral but are still pegged to their prices. Instead, they use algorithms and smart contracts to achieve price stability by reducing the number of coins circulating when the market price goes down and increasing the number of coins circulating when it goes up. If the underlying commodity or currency increases or decreases, the algorithm decreases or increases the number of stablecoins circulating to adjust the price to ensure it remains pegged to the underlying currency or commodity. USDD (USDD-USD) is an example of an algorithmic stablecoin.
Top 10 Stablecoins by Market Cap
Below are the top 10 stablecoins by market cap as of March 31, 2023, and one of the most popular collateralized commodity stablecoins.
| Rank | Name | Market Cap | Type of Stablecoin | |
1 | Tether | $79.7 billion | Collateralized fiat - USD stablecoin | |
2 | USCoin USD (USDC-USD) | $32.5 billion | Collateralized fiat - USD stablecoin | |
3 | Binance USD (BNB-USD) | $7.5 billion | Collateralized fiat - USD stablecoin | |
4 | Dai | $5.3 billion | Collateralized crypto stablecoin | |
5 | TrueUSD (TUSD-USD) | $2.1 billion | Collateralized fiat - USD stablecoin | |
6 | Pax Dollar (USDP-USD) | $877.5 million |
| |
7 | USDD | $715.4 million | Algorithmic stablecoin | |
8 | Gemini Dollar (GUSD-USD) | $612.5 million | Collateralized fiat - USD stablecoin | |
9 | Fei USD (FEI-USD) | $423.9 million | Algorithmic stablecoin | |
10 | TerraClassic USD (USTC-USD) | $210.9 million | Algorithmic stablecoin | |
Paxos Gold (PXG-USD) | $536.4 million | Collateralized commodity - Gold stablecoin |
Pros & Cons of Stablecoins
Pros:
USD stablecoins and other forms of stablecoins are attractive to some investors because they:
- Theoretically offer security, privacy, and instant transactions.
- Theoretically offer stability in value, in contrast to other cryptocurrencies that are highly volatile.
- Can possibly be used to move out of a crypto position when the market is especially volatile, as some crypto exchanges do not accept fiat currencies.
- Can possibly be used to transfer value between different crypto exchanges.
Cons:
Investors often stay away from stablecoins because:
- There is little chance of the large potential increases in value that other cryptocurrencies offer.
- There are concerns about the trustworthiness of certain stablecoins since they are more centralized than other types of digital currencies.
Regulation of Stablecoins
Stablecoin capitalization has been growing significantly in recent years and that has attracted the interest of financial regulators. In 2021, the Treasury Secretary of the United States convened the President's Working Group on Financial Markets in order to discuss stablecoins and create a report on what regulations might be required
The Treasury report, which was issued in November 2021, called on Congress to pass guidelines that would make stablecoin issuers subject to requirements that are similar to banks and other financial institutions by necessitating they hold enough reserves to meet the demands of customers to cash out of their cryptocurrency investment easily and potentially requiring them to hold U.S. federal deposit insurance.
The goal of these regulations would be to protect those who use stablecoins and ensure stability to the financial system and greater economy by preventing a run on issuers that would cause the currencies to be devalued. The report also called for stricter oversight and powers to regulate stablecoins. The legislation would apply to all stablecoin issuers that have headquarters in the United States, issue stablecoins that U.S. citizens can access, or which otherwise have strong ties to the United States. However, the report specifically focused on collateralized stablecoins and did not speak to algorithmic stablecoins.
Currently, some stablecoin exchanges and issuers are overseen by state financial governing bodies but more will likely be regulated in the future by U.S. state, U.S. federal, and international regulators.
Bottom Line
Stablecoins are a unique payment technology that theoretically gives users the benefits of cryptocurrency with what appears to be more price stability. They may be useful for both investors who are moving in and out of cryptocurrency investments and consumers who want an immediate and secure way to pay. However, stablecoins are new technology and they haven't been tested enough to trust completely. The practical use and benefits of this technology will be defined with time.
This article was written by
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.