Stablecoins are crypto sector's next big bet

When Elizabeth White set up a company in early 2017 to help new-found bitcoin millionaires buy luxury goods such as Lamborghinis and yachts, she quickly encountered a major problem: crypto price volatility.

“We would delay sales when people took cars for a test drive. At the beginning of the drive, the car would cost 12 bitcoin, but then it would go up to 16 bitcoin by the end of the drive,” said Ms White, a former assistant to Formula One drivers. At bitcoin’s mid-January peak, the difference in price for a buyer would have been as much as $80,000.

To address this hurdle, her business The White Company — unrelated to the British retailer of the same name — has joined dozens of initiatives to launch a “stablecoin”, a new hybrid breed of cryptocurrency that typically bridges mainstream and digital finance and has proven to be the latest craze in the nascent but fast-moving sector.

Rather than floating freely on the market, these digital currencies are often pegged to stable real-world assets, from currencies to commodities. For example, buyers can pay one dollar to receive one digital coin, which they can later redeem for the dollar if they choose to cash out — all but eliminating the wild price swings that have become commonplace in cryptomarkets.

Most popular cryptocurrencies, such as Bitcoin and Ethereum, have experienced a major sell-off since January. On Wednesday alone, Bitcoin posted a single-day drop of about 10 per cent and has since continued its slide to a 13-month low of about $5,400 today.

“Who pays for the volatility risk? Who’s hedged it? That is very much what we want to alleviate [for our customers],” said Ms White.

The best of both worlds?

While stablecoins are less enticing investments for risk-hungry speculators than other cryptocurrencies, proponents argue users get the best of both worlds: the low volatility of fiat currencies together with the advantages of digital currencies, such as fast international payments, availability to anyone with an internet connection and no need to go through the banking system.

And many believe their potential goes beyond facilitating the purchase of fast cars. In recent months, the market for these coins has exploded, buoyed by hopes they could be the stepping stone that enables the wider adoption of cryptocurrencies as a medium of exchange.

“As well as institutions coming in, stablecoins might be the key that unlocks the market,” said David Mercer, chief executive of LMAX exchange, a UK foreign exchange venue that trades $4tn a year.

There are now about 120 stablecoin projects under way, according to Stable Report, a crypto research group.

While they represent a small fraction of the wider cryptocurrency market, the value of all stablecoins stands at about $3bn, and their issuers have attracted some $350m in venture capital funding to date from the likes of Bain Capital Ventures, Google Ventures and Andreesen Horowitz, a report by cryptocurrency wallet provider Blockchain found.

Among the most popular stablecoins are those said to be backed by the US dollar, one for one. Many consider these as easy-to-use digital cash or an “IOU” for $1, rather than a substitution for real money.

“There’s no need to replace the US dollar that’s universally accepted,” said Chad Cascarilla, chief executive of Paxos, a blockchain company that recently launched its own dollar-backed stablecoin. “You’re upgrading the way in which it moves rather than the value it represents.”

Some experts are also developing stablecoins that are not backed by assets but stabilised using algorithms that control the currency supply.

Advocates also hope that in the long term, offering products and services powered by stablecoins will prove lucrative.

“Insurance, lending . . . these are some of the categories that could start to grow into the trillions [of dollars],” said Garrick Hileman, head of research at Blockchain, a crypto wallet company.

“The total addressable market is huge. That’s part of the reason so much VC money is going into the space.”

Building a ‘better’ Tether

The concept of stablecoins is not new: Tether, the biggest cryptocurrency linked to US dollar deposits, has been in circulation since 2014 and accounts for about 93 per cent of the total market value of all stablecoins.

But experts say more mature stablecoins have come to the fore as Tether has suffered a fall from grace. In recent months, investors have claimed that Tether has repeatedly failed to provide sufficient evidence that it has the dollars on deposit that it claims to have, and it has experienced price gyrations as a result. Tether maintains that it is backed by US dollar reserves.

“People thought — there’s demand for these so we can build a better a Tether that’s more transparent,” said Dr Hileman.

In September, the New York state regulator approved a dollar-pegged stablecoin put forward by the Winklevoss twins’ Gemini exchange, as well as the one launched by Paxos. Last month, Goldman Sachs-backed Circle, a cryptocurrency group in Boston, announced it had partnered with major cryptocurrency exchange Coinbase to create the “USD Coin”.

All of these issuers have mainstream banking, and third-party audits to prove that their stablecoins are fully redeemable if a holder wants to cash out. Some coins also have features that allow their issuers to freeze — or even delete — coins as part of tackling money laundering.

Wooing Wall Street

The upgrades mark a push by some crypto start-ups to do away with crypto’s Wild West reputation and woo institutional money. At a recent stablecoin conference on London’s Pall Mall — described as a “collaboration towards mass adoption” — the dress code was unusually smart for the cryptocurrency industry: business attire, with ties encouraged and denim banned.

But for early crypto enthusiasts who hoped to build a financial system independent from traditional banking, the shift is an uncomfortable one.

“The anarcho-capitalist dream of freedom from the fiat markets ended up as stablecoins [that the community] hope that Wall Street will take seriously,” said David Gerard, a cryptocurrency expert and author of Attack of the 50 Foot Blockchain.

Attendees suited up for a recent stablecoin conference on London's Pall Mall

Meanwhile, sceptics argue stablecoins are just a faddish attempt to keep the crypto dream alive as prices of traditional cryptocurrencies languish.

Mr Gerard described the technology as “this week’s hyperbolic bitcoin promise”.

He said advocates “think this will make crypto look like a real investment so real investors will turn up”. But he added that to date, stablecoins were largely being used by traders to arbitrage between exchanges, or by small cryptocurrency exchanges which have been denied banking relationships and are therefore unable to hold any funds in fiat.