What if there was a way you could buy a cryptocurrency that was basically cash. Say, it didn’t change the value, but it was still transferable and tradable as crypto. So today we want to explain what Stablecoins are? Also, how you can best use them to leverage your crypto trades. First off, what is a stable coin?
What is a Stable Coin?
A Stablecoin is technically a utility token built upon the blockchain of another coin. But the entire goal of a Stablecoin is to create a cryptocurrency that isn’t volatile and doesn’t change the price. They offer the convenience, privacy, and security of crypto while offering the stability and trust of fiat money.
A Stablecoin is pegged to the US dollar and should always equal $1. Theoretically, Bitcoin the first cryptocurrency was actually created to be used as a store of value. However, since it’s not widely adopted, there aren’t many regulations on it. Yet the price fluctuates a lot as if it is classified as a speculative investment. So what if you want to store money using crypto technology? Also, you don’t want to risk your investment with the price fluctuations of crypto in today’s world? Well, you can use a trusted stable coin.
Before we get too deep into Stablecoins. You first need a refresher on the differences between a centralized exchange and a decentralized exchange.
Difference Between Centralized Exchange and Decentralized Exchange
A centralized exchange is an exchange that is owned by one entity like Coinbase, but they allow you to buy and sell cryptocurrencies. Since they are a company the government technically regulates them.
On the other hand, a decentralized exchange is an exchange that is not run by a company. Instead, they are run by code changes to the exchange that only happens when the code is changed. And due to their decentralized nature, a government cannot regulate control or even shut them down. As they could do to Coinbase using Stablecoins. You can trade back and forth from Etherium to a Stablecoin from that Stablecoin to Bitcoin from that Bitcoin back to another Stablecoin. This way, you don’t have to pay as many fees. You don’t have to wait as long. Also, you don’t have to worry about government tracking or canceling your transactions. As if you would have to do it using a centralized exchange.
Now, this is actually a really good vantage of Stablecoins. Let’s say you purchase 100 Bitcoins for $100. Bitcoin then goes up to $10,000 per coin, so you sell 50 Bitcoins for half a million dollars. So you trade 50 of those bitcoins to die or USDC, which are Stablecoins for half a million dollars. And then you hold it when you can then buy back at a lower price. It’s almost like a cryptocurrency savings account.
Stablecoins are also beneficial when investing on platforms like our vein or compound. Here you can actually earn interest on your crypto assets. The reason is you don’t have to worry about the price fluctuations.
Moving on, we’re gonna move into some technical stuff.
How do Stablecoins work?
Well, mainly they work in two different ways:
- Collateralization and another through
- Algorithmic mechanisms, (smart contract manipulation)
These are a lot of big words, but we’re gonna break them down for you.
First off Fiat collateralization means that each coin is backed by something in most cases. For Example, one US dollar in some though its other countries’ currencies like the euro or even gold. Tether is in fact one of the major companies that released their USD Stablecoin using Fiat collateralization. The pros of a Fiat collateralized Stablecoin is that they are quite stable much more than the alternative.
However, they do have problems. The first is that one can’t invest the money required to put up for each USD. This can be millions of dollars for that company that is not earning interest. Another problem is someone at the company could embezzle or steal a bunch of that collateral. And one last problem specifically that tether faces is that it’s very difficult to prove that you own the total amount of collateral.
Let’s move on to the second method as an alternative to the Fiat collateralization method.
Smart contracts control some Stablecoins. Some people call this algorithmically pegged, Stablecoins. Now the benefit of this method is that it is very easy to audit. You just take a look at the smart contract code. Another benefit is that there are no physical assets to steal.
However, some of the problems can seem much worse. Smart contract-controlled Stablecoins are usually much more volatile simply due to how they work. What they do is they must manipulate the supply of their coins to adjust the price.
Now, the algorithm differs among each stable coin, but there are three main algorithms.
- One changes the amount of coin in your wallet each time that you check it. So that the value stays roughly the same $1.
- The second system uses a money printer and a bond reward system to adjust the price to $1.
- A third is very similar to the second however, it uses something called the coupons again.
Again, moving on to the next topic.
How to buy a Stablecoin?
In short, one can buy or sell Stablecoins on exchanges both centralized and decentralized. It’s very easy to buy tether or dye or USDC on a centralized exchange like Coinbase or Gemini. Another method is you could buy something like Etherium on Coinbase, transfer it to your private wallet, and then use a decentralized exchange like uni swap and trade that eth into a stable coin.
Now it’s time to be a little more pessimistic around the topic of Stablecoins. While Stablecoins do have good traits around them. There are a few things that you should think about before fully ditching your savings account and tossing all your savings into a Stablecoin. First is the lack of insurance. When you put your money into a bank savings account, it is actually insured by the government that they’ll repay you up to $250,000 worth of money that is stolen or lost from the bank. Stablecoins do not have this advantage yet.
If a company that started and is operating Stablecoin goes bankrupt. Then you’ll most likely lose all of your investment. Secondly, we have to bring back the collateralization issue.
Remember how we said that there were rumors that tether may actually not be backed by true cash if they aren’t, and that scares people, the price could fluctuate a lot, it can even cause it to be unpaid to $1 because tether is only worth what people think it is worth. Right now that is $1 if the belief changes, then the value changes.
So coming to the conclusion, Stablecoins are a great advancement for cryptocurrencies at the current moment and we’re excited to see where they go from here. If you’re putting your money into them, we recommend being cautious and as always, always do your own research. Stablecoins, like other cryptocurrencies, require the use of a crypto wallet to purchase, sell, trade, and store them. Furthermore, not all wallets support every coin (this is all software, after all). The key here is to ensure that the crypto wallet you select supports the stablecoins you want.