Introduction to Stablecoins: Step-by-step Guide for Novices

Published by FrankNez Team.

Stablecoins are cryptocurrencies whose price fluctuation is kept to a minimum.

The fact that cryptocurrency rates are less volatile demonstrates how stablecoins differ from more volatile crypto assets such as Bitcoin, which lack an inherent price-stabilizing mechanism.

With stablecoins, tokens have a value proportional to the value of another asset they are pegged to.

There are also multi-factor authentication stablecoins, which are functionally equivalent to a fiat-backed stablecoin.

Instead of utilizing dollars, cryptocurrency is used as collateral, and not just one but two coins are needed.

As a result, price swings and risks are mitigated. To lower volatility, cryptocurrency traders are now utilizing stablecoins such as Tether.

First Generation Cryptocurrencies

Bitcoin’s volatility has been and continues to be extremely high since its beginning.

As a result, stablecoins emerged to serve as a viable alternative.

They were developed in response to community requests for more solid defensive instruments that could be used to settle at a specified price or to safeguard the value of underlying assets like BTC and ETH amid price spikes.

Most of these coins are backed by the US dollar, while others are backed by gold or other raw resources.

Tether (USDT), the first big “stable” cryptocurrency, was created to track the US dollar and became available to market participants in 2014.

Crypto traders employed USDT (1 USDT = $1) to lock in earnings from trading without having to withdraw the resulting assets in fiat currency.

Some of the advantages of stablecoins include their flexible scalability (no extra assets are required to ensure emission) and incentive systems that allow participants to earn money. The algorithmic stablecoin architecture includes the majority of these techniques.

Basis can be considered one of the most well-known stablecoin projects. Basis’ founders raised roughly $135 million from investors in 2018. The notion of stablecoin — pegging the value of a currency to a huge number of parameters, including the price of physical goods – drew the latter in. In their project, the developers of Basis intended to merge the finest features of fiat and cryptocurrencies.

This stablecoin was proposed as a stimulus for the development of emerging economies. Regrettably, the Securities and Exchange Commission (SEC) has prohibited the corporation from releasing its cryptocurrency. Later on, the Basis founders returned the invested assets to the shareholders.

Terra and Carbon are two other projects worth mentioning. Their operating principle is comparable to that of Basis. Their key advantage is that they offer a high degree of decentralization in comparison to other stablecoins.

Nevertheless, their development is also more expensive because they are technically more sophisticated products.

What Are Stablecoins and How Do They Work?

Of all the different cryptocurrencies, stablecoins are the easiest to comprehend.

They operate in a straightforward manner.

Typically, they are all connected to a valuable asset. It could be the Singapore dollar, the US dollar, the Euro, or another currency.

Stablecoins are sometimes connected to the price of gold or other commodities as well. Companies that provide stablecoins always have reserves backed up by real-world assets, regardless of what those might be.

The ratio of stablecoins to back-up resources is usually 1:1, which increases their stability. Simply put, for every $1 in the company’s bank account, one Tether, for example, is linked to it.

You can find out how much a stablecoin is worth by looking at the size of its linked assets.

They are a simple means of trade that works as a link between fiat and cryptocurrencies. Additionally, stablecoins have a place in the Decentralized Finance (DeFi) sector.

They are also allowed in Singapore. The fact that a few stablecoins, like XSGD, are tied to the Singapore dollar is proof of this.

Risks Associated with Stablecoins

Even though stablecoins enjoy almost no volatility, they are not without drawbacks. BitAlpha AI app states on its website that “trading success varies and depends on numerous factors, including skills, practice, demand and supply principles, and timing.”

Investing in all kinds of digital currencies requires time, experience and patience. No investment comes with a certain degree of risk.

One disadvantage of stablecoins is their centralization. Because they track the value of real assets, many of which are under the control of central banks, governments, or other authorities, stablecoins are not as freedom focused as other cryptos.

They are included in DeFi; however, the fact that a centralized body still issues them remains. It’s easy to see how this goes against the fundamental concept of decentralized finance.

For example, if you possess USDT and Tether declines unexpectedly, all of your assets will vanish with it.

Furthermore, stablecoins must be audited, and third parties are required in order for this to happen. This undermines the DeFi concept once again.

In addition, some stablecoin providers are secretive about where they keep the assets that back up your stablecoin. As a result, you can’t be completely certain where your assets are going. This can become more of a problem if, for example, the company folds owing to regulatory concerns in the country, forcing you to lose all of your assets.

Stablecoins, unlike other types of cryptocurrencies, are linked to the value of an asset. As a result, if the asset’s value does not rise, the stablecoin’s inherent value will also not rise.