What Is the Reason for the Fluctuations in Stablecoins?

Cryptocurrencies are extremely volatile and have an unclear account value. Bitcoin is an excellent store of exchange and store of value, but due to volatility, it does not work as a report currency for financial statements or tax returns.

If the value of a Bitcoin drops sharply after receiving payment from a customer, the merchants, institution or person accepting the crypto may be concerned about profit margin erosion. The risk of volatility does not make sense in the ordinary course of goods and services, and this limitation has hampered the adoption of cryptocurrencies.

Stablecoins came as a touchstone in the cryptocurrency market and bridged the gap between traditional finance and new blockchains and programmable money.

Definition of Stablecoin

Stablecoins are a cryptocurrency that is collateralized by the value of an underlying asset from market volatility.

Examples of stablecoins include USDT (Tether), USDC
(USD Coin),
BUSD (Binance USD),
DAI (Dai), and TUSD (True USD).

The simplest version is a USD stablecoin backed by USD or a Euro stablecoin backed by a Euro. Stablecoins can also be a “basket” of multiple fiat currencies, commodities, or other assets. The possibilities of creating stablecoins are almost endless.

Fluctuations in Stablecoins

Tether, the stablecoin with the highest trading volume, has previously stated and documented that it holds 1 USD for every 1 to 1 USDT. However, he did mention that Tether is backed not only by the dollar, but also by commodities and crypto assets. In short, Tether does not have 1 USD per USDT. When this issue was first announced, it created a lot of controversy and even lawsuits were filed regarding Tether’s influence on Bitcoin’s 2017 rise and price manipulation, but still the accusations could not be proven.

Later in the case, in October 2018, Tether posted a blog statement stating that it had paused fiat deposits due to “processing complications.”

The market and authorities reacted by considering Tether’s battered reputation, and the USDT price fell 13% to $0.87. Over the same period, the USD stablecoin TrueUSD (TUSD) rose 7% and traded as high as $1.07. On April 14, 2019, Tether announced that it had only 74% USD reserves supporting the token in response to a complaint filed by the New York State Attorney General.

When we came to 2022, with the collapse of Luna, USDT could not maintain its price stability and fell to $ 0.97.

Luna, which is in the top 10 cryptocurrencies with the highest trading volume until May 2022, saw a decline of over 99.9%. and the stablecoin TerraUSD (UST) has lost value pricing As of May 27, 2022, the TOPT price is trading at 0.04323 USD.

Volatility analysis and additional risks should also be taken into account because not all stablecoins are the same. At first glance, USD-backed stablecoins may seem to have the same risk-adjusted par value, but maintaining 1=1 reserves is a small part of the picture. Who is the custodian, where and how are assets managed? How can reserves be verified? These questions shed light on important issues to consider.

Risks and Assessment

The economics of supply and demand explain some price fluctuations, but many other factors can cause more extreme fluctuations. Stablecoins are generally synthetic assets or derivatives that bring more complexity and risk than they are layered onto top of the underlying assets in the money supply tree, for example. In some cases, irrational market behavior, as involved in the Tether case, has an unpredictable effect on price. The research showed that the overall stablecoin fluctuations were caused by shocks of specific stablecoins rather than shocks in the cryptocurrency market and more specifically Bitcoin and Ethereum, and spread shocks from traditional asset markets. Since 2017, more than 100 stablecoin projects have been announced.

In other words, which stablecoin is ‘best’ depends on a wide range of sometimes competing factors, including the intended use (e.g., short-term store of commercial value), the desired degree of trust minimization and centralization, regulatory/judicial compliance, scalability, etc.

As evidenced by the Tether vs TrueUSD comparison, although the market does not seem to reflect this in the long term, the risk-adjusted nominal value should be considered when evaluating stablecoins.