Report: The Rise of Stablecoins
Editor's Note: This article comes fromBlock Record (ID: BlockchainInsights), published with permission.
Editor's Note: This article comes from
Block Record (ID: BlockchainInsights)
Block Record (ID: BlockchainInsights)
, published with permission.
Stablecoin research report jointly launched by Bitstamp and Coin Metrics
The supply of stablecoins has exploded in 2020, but it's unclear exactly why. After the supply of stablecoins reached 6 billion in 5 years, after the cryptocurrency crash on March 12, it took only 4 months for the supply of stablecoins to surge from 6 billion to 12 billion.
The rise of Tether
The idea of having a stable digital currency has been around for a long time, predating even Bitcoin. In fact, the rise of stablecoins began in early 2015, when cryptocurrency exchanges began listing Tether for trading.
Tether (USDT) is the first successful stablecoin and the stablecoin with the highest market capitalization so far. It was launched by Tether at the end of 2014. Tether introduces a relatively simple concept; creating a cryptocurrency asset that maintains a stable price. For every USDT issued, the Tether Foundation has a $1 reserve backing it (at least in theory). This keeps the price of USDT stable at $1, since each unit of USDT can be exchanged for $1 in the reserve. In this sense, Tether is basically a digital currency with a US dollar settlement function.
Tether got off to a slow start, with little movement in its first year. But when the price of Bitcoin started to rise in 2017, Tether started to gain momentum. In January 2016, the Tether supply surpassed 1 million for the first time. By January 2017, it was almost 10 million. In January 2018, when the price of Bitcoin was at a high near $20,000, Tether's supply had grown to 1.4 billion.
After Tether started to gain traction in 2017, other stablecoins soon began to launch. While Tether's reserves are controlled by the relatively opaque Tether Corporation, many new stablecoins are backed by large institutions, including exchanges.
Launched in September 2018, USD Coin (USDC) is managed by the Center consortium, which includes Coinbase and Cirle. That same month, Gemini announced the launch of the GUSD stablecoin. PAX also launched in late 2018. PAX was created by Paxos, the company that previously launched the itBit exchange in Singapore.
While both USDC and PAX are also backed by U.S. dollar reserves, different patterns are starting to emerge. In December 2017, MakerDAO launched the decentralized stablecoin DAI. DAI is also designed to be pegged to $1. But unlike USDT, USDC, and PAX, DAI is not backed by a reserve of dollars controlled by a single organization. Instead, DAI is collateralized by other crypto assets like ETH. Additionally, the DAI reserve is not controlled by any one entity. Anyone can create a Collateralized Debt Position (CDP) on MakerDAO's platform to generate new DAI, which can then be redeemed for the original collateral.
Around the same time, some concerns about Tether started to emerge. In November 2017, The Paradise Papers revealed that Bitfinex officials were responsible for setting up Tether Holdings Ltd, which owns the Tether Corporation. Later, in April 2019, the New York Attorney General would file a lawsuit accusing Bitfinex of using Tether reserves to cover their losses. There have also been ongoing questions about how much money the Tether Corporation actually holds in their Tether reserves. In April 2019, Tether's lawyers claimed that each USDT was actually backed by a legal currency of 0.74 US dollars, which was lower than the 1 US dollar anchored per 1 USDT stipulated in Tether's white paper.
But despite Tether's problems and the emergence of various new stablecoins, USDT still dominates and continues to grow. Initially launched using the Omni protocol on the Bitcoin blockchain, by early 2018 Tether began expanding to other networks. In addition to the Omni version (USDT), Tether launched USDT_ETH on the Ethereum blockchain at the end of 2017, and USDT_TRX on Tron in 2019. Since then, the Ethereum and Tron versions of Tether have surpassed the original Omni version in terms of total supply.
Throughout 2019, new stablecoins have been launched continuously. In September 2019, Binance launched Binance USD (BUSD), which is heavily used on its exchange. Soon after, Huobi launched Huobi USD (HUSD). Gold-backed stablecoins also started to grow in 2019. Towards the end of the year, Paxos launched Paxos Gold (PAXG), which is backed by physical gold instead of U.S. dollars. The price of PAXG is pegged to 1 ounce of gold (around $1800 at the time of this writing).
In the second quarter of 2020, the supply of stablecoins exploded again. However, this increase in supply did not coincide with a massive spike in Bitcoin’s price. In fact, it happened after a historic plunge.
Stablecoin supply growth
On March 12, 2020, due to the outbreak of the new crown virus, the global stock market plummeted, and the prices of most encrypted currency assets fell by more than 50%. During the two weeks of the sharp drop, more than 800 million new USDT_ETH were issued. From January 1st to March 11th, approximately 740 million USDT_ETH were issued. In addition, the supply of USDT_TRX will increase by more than 2 billion by the end of June.
The supply of other stablecoins has also increased, but the magnitude has not reached the billion level. Tether leads again by a large margin.
unstable stablecoin
As the name suggests, stablecoins generally remain relatively stable. In our sample, most stablecoins have remained in the $0.99 to $1.01 range over the last year. But the point is that even small fluctuations in stablecoin prices can have a big impact.
Stablecoin Prices
On March 12, 2020, after the price of Bitcoin fell by more than 50%, the stablecoin market suddenly fell into chaos. During times of market volatility, stablecoin prices fluctuate due to sudden changes in supply and demand. For example, when the price of Bitcoin suddenly plummets, demand for stablecoins tends to increase as investors look to seek safe-haven assets. This increase in demand can cause the price of the stablecoin to rise above $1 on selected exchanges.
The chart below shows hourly stablecoin prices from March 11 to March 14 (using Coin Metrics’ hourly reference data). The prices of most stablecoins rose between $1.03 and $1.06 between 2:00 and 6:00 UTC on March 13. This coincides with the timing of the BitMEX liquidation spiral, when the price of Bitcoin dropped as low as $3,900.
Two stablecoins in particular underperformed the rest: GUSD and DAI. The price of GUSD fell far below its anchor price, falling as low as $0.90. Also, it has not recovered as well as other stablecoins. This may be due to the relatively small supply and low liquidity of GUSD. On March 12, the total supply of GUSD was less than 5 million, while most of the other stablecoins in our sample had supplies above 100 million.
DAI’s departure from the peg has to do with its unique structure as a decentralized stablecoin in the MakerDAO ecosystem. Following the ETH price crash on March 12, there was a spate of liquidations in collateralized debt positions backing DAI. This caused an extreme system-wide shortage of DAI, causing the price to surge above its peg.
USDT, USDC, PAX, BUSD, and HUSD appear to be recovering much better, returning to near $1 within days of the crash. But as the chart below shows, the price of USDT is still above $1. It is worth noting that the price of USDT has been significantly higher than USDC, PAX, BUSD, and HUSD until mid-May (DAI and GUSD are not included in the figure below due to large deviations).
Due to their nature as a price-pegged asset, deviations in stablecoin prices create arbitrage opportunities. For example, when the price of a stablecoin is higher than $1, new coins can be minted at $1 each and sold on exchanges for a profit. Traded on a large enough scale, even at a price of just over $1, can bring in substantial profits.
The graph below shows how far USDT_ETH deviates from its $1 anchor (blue bars) versus the daily issued free-floating supply (red bars). Free Float Supply is a metric created by Coin Metrics to measure the freely usable supply in the market, excluding illiquid supply such as that held in custody by foundations. In the case of stablecoins, the free-floating supply does not include minted but unissued coins.
It can be seen from the figure that most of the newly issued USDT_ETH supply was generated from March to May, when the price of USDT_ETH was higher than $1. New issuance slowed down sharply at the end of May, and USDT_ETH price tended towards its anchor price, and even fell below $1, which may explain why USDT_ETH supply exploded after March 12: increased demand caused USDT_ETH price to rise to its anchor price Above all, this creates an arbitrage opportunity for buying USDT_ETH for $1.
But an important question remains. If there is no increase in demand, there will be no increase in arbitrage opportunities. So, what is driving the increase in demand that causes prices to rise?
return to stability
The plunge in cryptocurrencies on March 12 was spurred by a massive sell-off in global stock markets amid fears over the coronavirus. This led to a massive influx of cash, and a global shortage of dollars. Opting for a stablecoin allows investors to put money aside without having to cash it all out in fiat currency and incur fees. This sense of urgency for security likely accounted for a large part of the increased demand for stablecoins after March 12.
The on-chain supply distribution of USDT_ETH seems to support this theory. The graph below shows the total supply held by addresses holding at least X USDT_ETH, where X ranges from $1 to $10 million. Looking from bottom to top, it can be seen that most of the supply is owned by addresses holding a large amount of USDT_ETH. Addresses holding at least $1 million worth of USDT_ETH account for 4.35 billion of the total supply. Addresses holding $1,000 or less only hold a fraction of the total supply, as shown at the top of the graph.
Of the addresses holding USDT_ETH worth more than $1 million, exchanges accounted for a large portion. The amount of USDT_ETH held by these large addresses increased significantly at the end of March and April, indicating that exchanges suddenly held more stablecoins. It could also be due to the exchange itself converting fiat to stablecoins like USDT_ETH. Stablecoins make it relatively easy to move funds between exchanges and provide settlement functionality without relying on traditional remittance methods.
Tether is also widely used in crypto asset trading, which may be the reason for its price volatility. On most exchanges, stablecoins far surpass fiat currencies as the quote currency for cryptoasset trading pairs. Not surprisingly, the vast majority of stablecoin trading volume is dominated by Tether. In our research, USDT quoted more than all other stablecoin trading pairs combined.
USDT, USDC, BUSD, and HUSD all saw large spikes in trading volume around March 12. The transaction volume of DAI also peaked in March, but the highest daily transaction was less than $5 million.
to rise
We analyzed the trading volume of the following exchanges. Bitstamp, Binance, Binance.us, Coinbase, Kraken, Bitbank, Bithumb, Huobi, Bitfinex, Poloniex, Kucoin, and Bittrex. We selected these exchanges because we believe they have relatively accurate volume data compared to other crypto exchanges.
In addition, stablecoins can serve as an alternative to fiat currency entry, providing liquidity to cryptocurrency investors who do not have direct fiat currency access. This is especially important in countries with relatively strict restrictions on the trading of encrypted assets. Past research shows that USDT_ETH is mainly used in Asian and European markets.
One of the main reasons why Tether has maintained such an advantage is its superior liquidity compared to other stablecoins. The chart below shows the transaction execution costs of 0 to 100 BTC against USDT, BUSD, and USDC on Binance. USDT has lower fees than the other two stablecoins if trading 100 BTC. Liquidity begets liquidity, and Tether has a huge head start.
to rise
Another possibility is that stablecoins are increasingly being used as a medium of exchange. Given the ease of international transfers of stablecoins, global remittances and cross-border payments are natural uses for stablecoins. Perhaps due to the hyperinflation of many fiat currencies following the March 12 crash, these types of payments are on the rise.
By looking at the number of addresses holding different amounts of stablecoins, it is possible to get a clearer picture of its different types of users. The graph below shows the number of addresses holding at least $X worth of USDT_ETH, where X varies from $1 to $10 million. There are more than 750,000 USDT_ETH addresses holding at least $10, and about 325,000 addresses holding at least $100. But fewer than 55,000 addresses hold at least $1,000 worth of USDT_ETH, meaning the vast majority of addresses hold relatively small amounts. Interestingly, the number of addresses holding USDT_ETH below $1,000 grew rapidly after March 12, but started to decline around June 8.
Although HUSD and BUSD have relatively low adjusted total transfer amounts, they have the highest median transfer amounts at around $75,500 and $8,000, respectively. This suggests that they are mainly used for purposes such as settlements between exchanges or large transactions. This is followed by USDT, GUSD, USDT_ETH, and USDC, whose transfer amounts range from $400 to around $1,000. The third layer is composed of DAI, USDT_TRX, and PAX, all of which have a median transfer amount below $200. And at the bottom of the chart is PAXG, which has a median transfer amount of about $6.
uncertain future
Compared with BTC and ETH, the transaction frequency of stablecoins is relatively high. Velocity is a measure of how many times an average supply unit has been transferred over the past year and can be thought of as a turnover rate. The graph below shows the turnover velocity of stablecoins (plotted logarithmically). For comparison, BTC and ETH are also added. The velocity of BTC and ETH is between 4 and 6, while the velocity of stablecoins is mostly between 25 and 50. DAI's velocity is particularly high at around 95. This illustrates that stablecoins are more of a medium of exchange than BTC and ETH.
In June 2020, for the first time, the value transferred using stablecoins exceeded the amount transferred using BTC. This is a significant milestone, heralding that stablecoins are surpassing BTC as the primary cryptocurrency medium of exchange.
The rise of stablecoins could have a major impact on BTC and ETH, for better or worse. Since most stablecoins are launched on Ethereum, there is a lot of debate about whether they drive the platform by increasing overall usage and whether they affect the platform by driving up fees. But overall, as stablecoins continue to grow, they may help bring more new users into the cryptocurrency ecosystem. Stablecoins could become a means to help spur the adoption of cryptocurrency technology around the world, driving the use of BTC and other crypto assets in the process.
uncertain future
