With Bitcoin taking a 10% bath earlier this week, you might be wondering whether you should invest in something less volatile, like stablecoin. After all, the cryptocurrency already has the word stable in its name. But what is stablecoin exactly, and is it a worthwhile investment? Here’s a look how it works and how it differs from other cryptocurrencies.
What is stablecoin?
While many people invest in cryptocurrencies in the hopes that one day they’ll supplant traditional, centralized fiat currencies, crypto prices remain extremely volatile. To make them more stable, some cryptocurrencies are backed by valuable assets like fiat money, or commodities like precious metals or real estate (there are more esoteric stablecoins backed by over-collateralized cryptocurrencies, too).
Essentially, stablecoin is kind of like “crypto light” in that it’s a bridge between decentralized finance and traditional money (although the irony is that stablecoin goes against the grain of why people get into crypto in the first place).
Aside from price stability, the benefit of stablecoin is that it has the same advantages as regular crypto: fast, global money transfers with no fees; privacy; and blockchain-based smart contracts, which, unlike conventional contracts, don’t need any legal authority to be executed. As a result, stablecoins have also become a go-to tool for crypto traders, as it allows them to move money from one crypto exchange to another without much fuss.
Should I invest in stablecoin?
If you’re looking to cash in on crypto momentum swings, stablecoin might not be for you. Stablecoin is meant to be, well, stable, without the dizzying highs that you see with regular crypto, as its value tends to reflect the value of the asset it’s based on. As Nerdwallet explains:
Stablecoins may not be the investment that other cryptos are: They are inherently built to keep their prices stable, not soar in value. For example, the USD coin has barely strayed from its $1 value for its entire existence. Meanwhile, at the start of 2019, Bitcoin floated close to $4,000, but in May 2021, it was over $60,000. Stablecoins may be better used as a form of digital cash rather than a speculative investment.
This is true for other assets, too. Investing in a stablecoin pegged to gold is like a bet on gold itself, in the sense that if the value of gold increases, your gold-backed stablecoin will increase in value, too. The less centralized the asset (i.e., stablecoins based on other cryptos), the less this will be true.
Aside from the natural appreciation of the asset, a common way of making money off of stablecoin is by earning interest from loaning out your stablecoins. As Fool.com points out, stablecoin interest rates are very favorable, as high as 25% interest during bull markets.
All this said, stablecoin isn’t exactly risk free. One big issue is that there’s no regulating body that polices stablecoin, which makes it harder to know if the underlying asset can support the supply of a given stablecoin. As US News reports, even the most popular stablecoin, Tether, which is pegged one-to-one to the U.S. dollar, only includes 3.87% cash in its reserves. This is why some sort of federal regulation is already in the works.
Bottom line
Stablecoin is less risky than regular cryptocurrencies, but it’s not risk-free, either. Since they’re designed to have stable prices, it might be easier to make money by lending and collecting interest on stablecoin rather than as a speculative bet on its long-term value. For that reason, you’ll want to have a strong understanding of crypto markets actually work (including regulation) before you plow a bunch of money into it.
