The popularity of cryptocurrency has increased over the years, and it is no surprise that more people are interested in the topic, The crypto market seems to be healthier than ever before, There are a lot of traders who want to hop on the crypto bandwagon but want to avoid the risk, so they take a different approach.
Stablecoins Investments and Passive Income
We’ll look at stablecoins investments and see if it is possible to make passive income staking them, As well as thoroughly explain why they’re suddenly all the rage and the possible risk involved.
Stablecoins are cryptocurrencies that keep their price in line with a fiat currency or commodity. This keeps their value stable and easy to predict. Stablecoins are cryptocurrencies with a stable price to an asset, most often but not always the US dollar. Traditionally, the volatility of cryptocurrencies has been an issue.
However, an increase in institutional investors participating in the cryptocurrency markets has led to a more stable environment for investment. Bitcoin’s price movements are notoriously volatile, and it’s never possible to predict how it’ll behave in the future.
This being said, Bitcoin was worth $32,000 this time last year, then nearly doubled in Feb to over $60,000; but then it dropped back down to the low thirties. Stablecoins are pegged to assets to maintain their value. They’re less prone to market fluctuations, making them a stable store of wealth.
For instance, one of the most popular Stable coins Tether, is equal to $1 at nearly all times. Other popular stable coins include USD Coin (USDC) and Terra-USD (UST).
Unlike other cryptocurrencies, Stablecoins have a unique advantage of having significantly lower volatility due to how assets back them. When you combine this with their bridging role in cryptocurrencies and traditional currencies, it’s pretty clear that Stablecoins are about to become the most ubiquitous cryptocurrency for goods and services.
The total market capitalization of all the stable coins globally is more than $150 billion, making them an essential asset in DeFi. They have more than 50% of the global crypto trade volume and are today’s most dominant crypto coins.
Four types of Stablecoins
- Fiat collateralized
- Crypto backed
The primary use for Stablecoins is facilitating trades on crypto exchanges. Instead of buying Bitcoin directly with fiat currency, like the US dollar, traders often exchange fiat for a stable coin and then execute a trade with the stablecoin for another cryptocurrency like bitcoin or ether.
Stablecoins can also act as payment alternatives. By utilizing Stablecoins, businesses can accept payments at a meager cost, and governments could run conditional cash transfer programs easier than before.
Due to their fast transaction speed, Stablecoins can also be used to distribute monetary aid to beneficiaries worldwide.
Another use for Stablecoins is to send funds across international borders. Sol Digital, a stablecoin pegged to the sol, Peru s national currency, launched on the Stellar blockchain in September. It can be transferred between individuals in different countries without incurring third-party fees.
The pegging of Stablecoins is near-perfectly one-to-one through various methods, including: Reserving of pegged assets (e.g., USDC, USDT), It refers to a fully collateralized system backed by the pegged asset, where arbitragers are incentivized by helping to stabilize the price.
When the cost of the stablecoin is lower than the pegged asset, the arbitragers can buy a cheaper stablecoin, which can then be redeemed for USD 1 each. Similarly, if the price of the coins rises above the price of the pegged asset, they can sell them to profit.
Dual coins, Two coins exist in these kinds of systems, where one is the pegged coin while a secondary coin is used to absorb the volatility of the pegged coin.
Algorithmic coins, Instead of using any reserve or being backed by assets, these kinds of Stablecoins use a fully algorithmic approach to adjust the supply of the stable coin in response to price fluctuations. However, a stable algorithmic currency only exists in theory.
None currently exist in the market. Leveraged loans (e.g., DAI). An over-collateralized system backs this kind of stable coin. The most successful example is DAI, in which PETH supports the stable coin, and its value is correlated to Ethereum.
Since the collaterals are more volatile in price, users need to have more than a dollar and fifty cents worth of PETH to borrow USD 1 of DAI. If the collateral price falls sharply, the debt position will be liquidated, and the remaining amount of collateral will be returned to the user.
A common question or concern among stable coin users is whether or not they’re safer than bank accounts and money market funds. One way to handle this is by doing your research before investing in cryptocurrency.
Before depositing any money or coins into any account, check the issuing authority and their history of projects. Investors can also move their funds elsewhere if they lose interest in a company. Check the issuing entity roughly, pay attention to their past projects, and ensure that you’re confident in their objectives.
But even if a shaky coin is holding your funds, you can always quickly move them over to another more stable cryptocurrency or your bank account. However, even if such currencies are pegged, the volatility rate is near zero because they usually exist in a stable environment.
There are still discussions about stable coin regulations in most jurisdictions. In the US, for example, the President’s Working Group on Financial Markets includes heads from all the essential financial regulation organizations.
It raises the risks to transparency, market integrity, and investor protection potentially being at risk. Legislation to regulate stable coin issuers is currently proposed but not yet enacted. We have a basic understanding of Stablecoins; why are interest rates on dollar-pegged Stablecoins so much higher than interest rates on actual dollars?
Even though it’s pegged to the dollar, a stable coin often commands a higher interest rate. A quick search of stablecoin rates reveals that some are between 9% to 13%, or even more. One easy explanation for this is that since the stable coin is backed by a fiat currency and has high-interest rates, people are compensated for the risk of losing money.
However, USDC and Pax (USDP) are supported by dollars on a 1:1 ratio, so they are low risk. There is another reason and it highlights a fundamental conflict in the purposes for which Stablecoins are used. It’s only natural that interest rates on actual dollars are so low.
The Federal Reserve has set them at zero percent, so banks have no reason to offer an interest rate on deposits. And because the Fed has created trillions of additional dollars, there are considerably more cash dollars floating in traditional markets than anyone can spend. No one wants dollars, so they don t command any interest.
But the opposite is true for Stablecoins. Demand for them constantly exceeds supply, so people with them can demand premium interest rates – while platforms that need them to offer their customers crypto services are forced to pay high-interest rates to attract new stable coin lenders.
That’s why stablecoins investment interest rates are so high. It s simple economics. You d think stable coin issuers would issue enough coins to satisfy demand. There are, after all, no limits on stable coin issuance. Many folks compare Stablecoins to quantitative easing, only without the asset purchases.
However, stablecoin issuers have recently attempted to print out new coins at an astounding rate. That is why Circle’s co-founder, Jeremy Allaire, prints billions of USDC, which doesn’t bring down interest rates.
The market swallows everything he prints and comes back for more. Where is all this demand coming from? The most obvious place is the Exchanges. Stablecoins make excellent liquidity for crypto exchanges. They allow people to easily and swiftly move in and out of cryptocurrencies without risking losses on the bridge asset.
As cryptocurrency trading increases, so makes the demand for Stablecoins. Exchanges like FTX need more stable coin liquidity to maintain trading activity. Without these infusions, it would have to restrict trading in and out of Stablecoins or allow Stablecoins to fall off their dollar pegs at high demand.
Stablecoins offer crypto investors a safer way to invest when it comes to volatility. When crypto prices are unpredictable, people will usually go for Stablecoins. This tends to push them off their pegs, destroying their purpose.
Jeremy Allaire cranks up the printing presses when people are cashing out of risky crypto into good, safe Stablecoins and USDC is starting to seem costly. Although printing more Stablecoins helps maintain their peg when demand is high, it does not lower interest rates for stable coin loans.
This is one factor that separates them from central banks. The main goal of central banks is to control interest rates. Stablecoin issuers only control exchange rates. Interest rates rise when you print money to hold an exchange rate peg.
Printing, therefore, contributes. However, that s not the only reason. There s a lot of demand for Stablecoins, and it’s coming from decentralized finance. Dollar-pegged stablecoins are commonly used as collateral in DeFi lending and staking pools. We’ve seen massive demand for these as more people get into DeFi and more new platforms become popular.
In December 2021, research by The Block revealed that the issuance of Stablecoins had risen by 388% in a year, mainly driven by demand from DeFi. If this trend continues, we may see more stable coins being used as collateral and less of them being used as safe assets on exchanges.
Also Read: How do you Earn Passive Income with DeFi
Collateral is generally illiquid. When you borrow against property, that property becomes encumbered. You can no longer sell or lend it out without the lender’s permission because the lender wants to be able to seize that property if you default.
So, if you pledge USDC in return for DAI stablecoins, you are locking up your Stablecoins in Maker Daos vaults. They are no longer in circulation. And the same happens if Stablecoins of all types are being collected in a variety of places.
It’s important to note that there is an increasing need for more stable coins with the increase in demand for decentralized access. The DeFi system drains liquidity to allow companies like Goldman Sachs and JP Morgan to operate their derivative pyramids.
That s why Jeremy has to print and print. Otherwise, the system would gradually become less liquid until we have stable coins that are virtually useless. It is possible to make collateral liquid if you don t mind risking other people’s assets.
The conventional financial system, which had a similar liquidity-draining derivatives pyramid in the mid-2000s, believed they had found a way to help avoid collateral illiquidity from causing the pyramid to collapse. It s called rehypothecation.
Lenders let borrowers use their collateral to the point of it being pledged repeatedly. The double spiral of cash lending and collateral rehypothecation enabled the derivatives pyramid to grow so high that it quickly started crumbling and collapsed disastrously in 2008.
Now those long rehypothecation chains have been regulated away; conventional markets have become reliant on infusions of liquidity from central banks. The Fed has even invented a liquidity pump: it provides banks with dollars in return for securities and provides securities to non-banks in return for dollars.
The process is called “standing repo facility” (SRF) and “overnight reverse repos” (ON RRP). The idea is that this cycle will ensure much-needed cash for the economy while controlling interest rates.
There is no way the Fed will let them fall through the floor or rise to the heights that stable coin interest rates are reaching. No one likes to be regulated, and crypto enthusiasts are certainly no exception. In that regard, they’ve been rejecting central banks and the market regulation they practice.
As a result, crypto lenders find ways of making collateral liquid. And whether knowingly or unknowingly, they are reaching for the same tools. Rehypothecation is back. Lending platforms like Celsius use rehypothecation to generate high returns for their depositors.
Celsius has been accused of endlessly rehypothecating pledged assets, though it denies that it does this. But, at least for now, DeFi seems to be relatively small potatoes. Constant infusions of new stablecoins are the only significant relief for the terrible illiquidity that comes with feeding crypto’s primary medium of exchange to the ever-thirsty derivatives monster.
And that is why Jeremy Allaire can’t stop printing. Is staking Stablecoins worth it? In the case of stablecoins, a favorable short-term outcome is almost guaranteed. While cryptocurrencies may offer greater rewards and higher profits, risks are always involved.
A stable coin allows you to assess a predictable outcome upfront, which is beneficial. All in all, the crypto markets, in general, give you numerous options and possibilities to be profitable in the end. Looking at Crypto.com and staking the stable coin USDC, a $100,000.00 investment would provide you with a 6% annual percentage, with a weekly payout of $115, re-staking your coins over a three-month term.
This could be a great option with a weekly payout if you are looking for passive income. The earned coins are deposited into your account; you could stake your rewards to earn a more significant payout or cash out and provide yourself with income.
I enjoy sharing my knowledge with you and assisting both of us in becoming better traders and investors, as well as achieving some level of success. You’ve made it all the way to the end of my article. Thank you for your time.
Disclaimer: The cryptocurrency market is very volatile. The entire content of this article is provided solely for educational purposes. Invest in stablecoins only after you’ve completed your research and made your final decision.