The term “stablecoin” is misleading because stablecoins can be very unstable. They aren’t stable because of their nature.
A stablecoin is a cryptocurrency where the value is pegged to another currency, commodity, or financial instrument.
These cryptocurrencies also have a smart contract built-in. A smart contract is an app or digital robot that performs a task. Stablecoin smart contracts make payments in fiat currency when you spend the stablecoin.
For example, Tether (UDST), pays in U.S. dollars from a bank account when you spend it.
Stablecoins don’t contain fiat currency as many fans think. Instead, the currency is in a bank account or paid through an algorithm. Thus, Tether’s only value its’ smart contract’s ability to make payment in U.S. dollars. If the smart contract can’t make payment, Tether loses all its value.
The term stablecoin comes from the unsubstantiated belief that they will always have the same value as the fiat currency they make payments in.
For example, Binance USD (BUSD) fans think BUSD will always make payments in dollars so it always be worth $1.
Stablecoins Can Lose Value
Stablecoins can lose all value if there is no money in the bank account or if technical problems prevent the smart contract from making payment.
Moreover, stablecoin prices can fluctuate, or crash, if speculators think there is something wrong with it.
The price of the TerraUSD (UST) dropped below 10 cents earlier this month. While it’s estimated that TerraUSD’s market capitalization fell from $18.44 billion on May 9, 2022 to $1.3 billion on May 17, 2022. If CoinMarketCap is correct, TerraUSD lost $17.14 billion in market capitalization in eight days.
CNBC alleges that TerraUSD lost its value because the Luna Foundation, the organization behind it, didn’t back it with money in a bank. Instead, they use a complex algorithm to get funds to back TerraUSD. When the algorithm failed, TerraUSD’s price collapsed.
Why Stablecoins are Unstable
Stablecoins are unstable because the market determines their price. The market price is what traders or speculators pay for an asset, not its true value.
For example, Tether (UDST) was trading at less than a dollar 99 cents on May 17, 2022. Yet, Tether’s smart contract will still pay $1. Similarly, the Neutrino USD (USDN) was trading for 95 cents, the USDX was trading for 80 cents, and the XSGD was trading for 71 cents.
These stablecoins trade for under a dollar because speculators don’t believe they are worth $1. Investors need to be leery of these stablecoins because speculators’ doubts about them could be valid.
The TerraUSD debacle shows any stablecoin can lose its value in a market crash. Stablecoins, like gold and stocks, are vulnerable to market crashes.
The Risks From Stablecoins
Stablecoins present a double risk because they combine two assets: cryptocurrency and a fiat currency.
Thus, the Stasis Euro (EURS) combines the risks of the Euro and the EURS cryptocurrency. If the Euro loses value, the EURS loses value. The Stasis Euro’s price will go down if the Euro’s price falls in Forex trading.
Additionally, stablecoins are vulnerable to inflation and hyperinflation. If inflation reduces the buying power of the U.S. dollar, it will cut the buying power of Tether or Binance USD.
A fiat currency can collapse if people lose faith in the government that issues it. Fiat currencies often collapse if a nation loses a war or suffers a revolution. Stablecoins are vulnerable to all the problems facing fiat currencies and cryptocurrencies.
A stablecoin can collapse if the technology behind the smart contract and algorithms fails, preventing payment in fiat currencies. The stablecoin can also collapse if it can’t make payment because of an empty bank account. Thus, Tether could collapse if hackers stole all the dollars in its accounts.
Are Stablecoins Safe?
The safety of stablecoins is hard to determine because they are a new technology. The first stablecoins, BitUSD and Tether, appeared in 2014, just eight years ago.
Stablecoins only became popular in the last two or three years. Thus, stablecoins are a new and unproven technology. Notably, it is unclear how inflation and the economic chaos the Ukraine War is unleashing will affect stablecoins.
There are also some gold-backed stablecoins including Tether Gold (XAUt). Tether Gold is an ERC-20 token built on the Ethereum blockchain. Tether claims each XAUt token represents ownership of one fine troy ounce of physical gold on a London Good Delivery Bar.
A London Good Delivery Bar is a gold or silver bar that meets the standards set by the London Bullion Market Association. A company called TG Commodities Limited holds the gold bars in trust for Tether Gold owners in a British vault.
Tether Gold is a digital asset for rich people. To buy Tether Gold (XAUt) you need a verified account with TG Commodities Limited. There is a minimum purchase price of 50 XAUt. I calculate the minimum purchase amount for Tether Gold (XAUt) was $90,966 on May 17, 2022.
Tether Gold’s price can be close to the gold price. CoinMarketCap gave Tether Gold a $1,819.31 Coin Price on May 17, 2022. A pure troy ounce of gold was trading at $1,816.32 on the same day. Thus, gold stablecoins could be a safer investment than fiat currency stablecoins.
In the final analysis, stablecoins are a new technology that could be unreliable and unstable. Investors need to be leery of stablecoins because they are risky assets.
If you want to invest in a proven safe haven, think about precious metals.
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