Crypto-backed stablecoin is MakerDAO’s Dai. Despite being primarily pegged to the US dollar, the crypto-backed nature of the currency necessitates excessive collateralization.
The volatility associated with trading in crypto assets has fueled scepticism toward cryptocurrencies and blockchain technology in general. It is true that investing in crypto assets does come with high risks and high rewards. But there is one safe option in this world of volatility: Stablecoins
Stablecoins are a much more appealing alternative for conservative investors who dislike the volatility of the cryptocurrency market.
They represent the best of both fiat and digital currencies and are available on all popular exchange platforms like CoinSwitch .
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What are they?
If you’ve made it this far into this article without knowing what stablecoins are, we suggest you pay attention now; if you already know what stablecoins are, feel free to skip this section.
A stablecoin is a cryptocurrency pegged to a reserve asset like a fiat currency, commodity, or other cryptocurrencies. It is a tokenized version of the asset and can be introduced subtly into a blockchain ecosystem to facilitate seamless pass transactions, improved arbitrage, and value exchange.
It is sometimes referred to as a utility token because it allows you to quickly buy and sell on decentralized exchanges that do not accept fiat currencies.
Stablecoins are also used in centralized exchanges. What makes them useful in an exchange of this kind is the fact that fiat currencies take a long time to process, but their tokenized counterparts are standard blockchain entities that move quickly.
What are its uses?
- They can be used as an everyday currency: Unlike traditional crypto coins, which are subject to price fluctuations and volatility, stablecoins do not fluctuate much because they are backed by national currencies. In addition, they have the same advantages as other crypto coins: blockchain security, transaction anonymity, quick transfers, and the lack of intermediaries. They can be used to pay for groceries, fares, or electricity bills, among other things.
- Great potential for smart contracts: Smart contracts are frequently based on other cryptocurrencies, such as Ethereum. Frequent price changes can have an unpredictable impact on the contract’s terms. The use of stablecoins like Tether can provide contract stability to both parties, by reducing market volatility and ensuring that more secure contracts are enforced by the blockchain.
- Fiat-collateralized stablecoins
This type of stablecoin is linked to the sovereign legal tenders of countries. Some of the most well-known fiat-collateralized stablecoins, for instance, include Tether and TUSD (True USD).
However, these stablecoins are not created by the central authority. A company issues these tokens by depositing an equal amount of fiat in its reserves.
Simply put, the stablecoin’s value is based on the belief that the company behind it has the equivalent amount in hand.
- Commodity-backed stablecoins
These are stablecoins that are backed by reserved assets other than fiat currencies—by commodities. Real estate, gold, silver, and various other precious metals are examples of commodities. Kitco Gold, for example, is backed by the company’s gold reserves, and the token itself is based on the Ethereum-backed ERC-20 blockchain ecosystem
- Crypto-backed stablecoins
This type of stablecoins is backed by other cryptocurrencies; it is crypto collateralized.
Due to the volatile nature of cryptocurrencies, these stablecoins must be overcompensated in order to be collateralized. Let’s look at an example to clarify.
Crypto-backed stablecoin is MakerDAO’s Dai. Despite being primarily pegged to the US dollar, the crypto-backed nature of the currency necessitates excessive collateralization. This means you’ll need to deposit $1,000 in ETH to buy $500 worth of DAI stablecoins.
- Algorithmic stablecoins
These are primarily non-backed stablecoins in which prices, token numbers, and other variables are manipulated with the help of special algorithms, software, and code in order to better manage supply and demand. This strategy allows the company to maintain the reserve peg in the event of price fluctuations.
Stablecoin Investment Options
If all of this sounds interesting and exciting, you could consider the following investment options.
- Crypto lending
Crypto lending is the same as keeping money in a bank’s savings account and earning interest on it. And if you are looking to earn interest through it, stablecoins are a great option because of their relatively stable nature.
Since the crypto lending principle is also associated with decentralized finance (DeFi), stablecoins could be considered a precursor to DeFi. They can be used to lend crypto across platforms like Aave.
- Crypto staking
Staking refers to the Proof-of-Stake consensus method in the crypto world, in which coins are locked by miners to verify specific transactions. Once transactions are verified by running specific algorithms on nodes, the pledged or staked coins generate rewards for them. Crypto staking thus is a fun and profitable way to make money with stablecoins.
Stablecoins can act as value stores for those who prefer HODLing coins due to their low volatility. You can even use the coins sparingly for yield farming after they’ve been stored for a long time.
Yield farming, in simple terms, is the process of locking assets or value into a liquidity pool to help Decentralized Exchanges (DEXs) manage fund movements more efficiently. It is rewarded with a percentage of the exchange fee. It is like using your coins to provide liquidity.
Limitations of stablecoins
- The value of stablecoins is based on people’s trust in the company holding the collateralized reserve asset, and that trust may waver on occasion.
- Stablecoins may lose value if the company goes bankrupt.
- It is critical for the holders to declare solvency to maintain trust in the coin and its value.
- Unless there is a sense of unrest in the fiat or commodity markets, stablecoins aren’t meant for trading gains.
Stablecoins aren’t your typical money minters. In this, they are unlike Bitcoin, Ethereum and other crypto players. But they are more dependable assets and the least volatile. So they are a good option if you want a passive income and blockchain technology to speed up peer-to-peer payments and transactions.
If this article has piqued your interest in stablecoins and you want to invest in them, consider doing so through CoinSwitch. Popular stablecoins like Tether (USDT) are available on its platform, which is very user friendly.
Disclaimer : The above content is non-editorial, and TIL hereby disclaims any and all warranties, expressed or implied, relating to the same. TIL does not guarantee, vouch for or necessarily endorse any of the above content, nor is it responsible for them in any manner whatsoever. The article does not constitute investment advice. Please take all steps necessary to ascertain that any information and content provided is correct, updated and verified.
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