Stablecoins Witness 18-Month Decline Amid Crypto Market Volatility: A Deeper Insight
Summary:
Stablecoins have experienced an 18-month decline, dropping the market dominance to 11.6%. The total market capitalization was reported at $124 billion in July, marking a decrease affecting major stablecoins. However, Tether (USDT), the largest among them, continues to grow. Although some factors indicate a continuation of this trend, the entry of a significant U.S. financial institution like PayPal into the stablecoin market with PayPal USD (PYUSD) could boost investor confidence. These back-and-forth market trends led by growing interest rates, legal challenges and varying investor preferences, place the future of stablecoins in an uncertain position.
Cryptocurrency stability seems to be taking a back seat, with stablecoins witnessing a steady retreat for 18 uninterrupted months, reducing their market dominance to a mere 11.6%. A CCData report indicates that the overall market value of the stablecoin sector dipped to $124 billion in July, amid a year and a half of steady decline affecting the majority of prominent stablecoins. Notable stablecoins such as Pax Dollar (USDP), USD Coin (USDC) and Binance USD (BUSD) experienced drops, while Tether (USDT), the largest stablecoin on market share basis, continues to expand.
Designed to offer price stability, stablecoins employ diverse strategies to maintain steadiness in the volatile crypto market. Most of these strategies involve backing by fiat currencies, with others hinging on cryptocurrencies or physical commodities, or algorithmic approaches. The reasons behind the unfolding stablecoin retreat remain unidentified and potentially multifactorial.
The legal action taken by the United States Securities and Exchange Commission resulting in the suspension of fiat currency deposits on Binance.US, coupled with MakerDAO decision to delete USDP from its reserve pot due to non-productive revenue generation are considered critical factors. Even though trading volumes of stablecoins rose to $406 billion in August, marking a 10.9% increase, overall activity on centralized exchanges appears to be waning, and this trend is likely to persist into September, according to the CCData report.
CCData links the SEC legal action against Binance and Coinbase, coupled with the race to enlist Bitcoin (BTC) in the exchange-traded fund (ETF) market, to the rise in stablecoin trading volumes. It infers that despite the retreat, stablecoins continue to serve as secure investment options for many investors. Other underlying factors could be investors using their stablecoins to purchase traditional assets as they retire from the cryptocurrency market, or seeking higher returns available in fixed-income securities.
The yield of 10-year U.S. Treasury bills has experienced a sharp upturn as the Federal Reserve increases interest rates to limit inflation. Despite dipping to less than 0.4% in 2020, these notes are currently offering a 4.25% return. Kadan Stadelmann, the Chief Technology Officer of blockchain platform, Komodo, believes the stability often associated with government debt issues is luring investors, despite the looming threat of massive debt. Stadelmann says while crypto investors perceive stablecoins as riskier due to the unregulated nature of the crypto market and unguaranteed returns, they prefer treasury bills for their stability and guaranteed returns when the interest rates are comparable.
Reduced market value of the stablecoin sector may potentially impact the overall cryptocurrency market, given the use of stablecoins as storage and exchange medium in crypto operations. Therefore, a decline in stablecoin demand could result in reduced liquidity and efficiency of the wider crypto market.
While the overall market value of the stablecoin sector has witnessed a consistent drop for 16 months, the CCData report highlights that trading volumes have not experienced a similar fate. A drop in trading volumes, along with decreasing dominance of USDT and marginal declines experienced in August, could be due to changes within the stablecoin sector. Becky Sarwate, head of communications at CEX.IO, a cryptocurrency trading platform, expects tactful transitioning of Binance's holdings from stablecoin to BTC and ETH, driven largely by the fallout of Silicon Valley Bank that affected Circle's $3.3 billion safeguarded there.
Binance's leading stablecoin, BUSD, continued to decline after Paxos was forced to halt new token issuance. In response, Binance embraced TrueUSD (TUSD) and First Digital USD (FDUSD), resulting in a dramatic increase in their market caps, roughly 240% and 1950% respectively, in 2023.
Thomas Perfumo, Head of Strategy at Kraken, a cryptocurrency exchange, states the link between stablecoin market cap and market demand. He cites the growth of circulating stablecoin supply from approximately $5 billion to approximately $115 billion in about three and a half years as a testament of the popularity of volatility hedging and the flexibility it allows for global, 24/7 transactions.
Peli Wang, co-founder and operations chief at Bracket Labs, compilers of a decentralized finance options exchange, states that the reduced market cap of major stablecoins like USDT and USDC by 23% from June 2022 to September 2023 is minor compared to the 66% dip in the broader cryptocurrency space from $3 trillion to roughly $1 trillion from November 2021 to September 2023. He regards cryptocurrency investors as being highly opportunistic who decide to hold assets based where the yield is headed, shifting to traditional finance as its interest rates rise.
Perfumo of Kraken supports this view, citing the potential of the decline in stablecoin supply to have been instigated by the lure of high interest rates for cash equivalents like government bonds. He also mentions the Federal Deposit Insurance Corporation's report which states that US banks recorded more deposit losses in the last 40 years due to high yields, indicating the potential exodus of funds into treasury bills and money market funds offering enhanced yields.
Breaking away from the cryptocurrency norms of 2020 and moving towards traditional finance has become a trend, according to Pegah Soltani, Ripple's Head of Payment Products. When traditional finance was marked by low interest rates, there was relatively little opportunity cost for holding money in non-yielding stablecoins as Treasuries and other fixed income securities were yielding close to zero. However, with interest rates rising, these non-yielding instruments have become less attractive.
As traditional finance becomes more attractive due to increasing interest rates, there remains no doubt in the mind of Sarwate from CEX.IO that stablecoin adoption is initially a convenient platform for those curious about the digital economy. She describes recent challenges faced by the stablecoin market as a significant turbulence factor for investors, due to the collapse of cryptocurrency exchange FTX and of the Terra ecosystem, which included a stablecoin that lost nearly all its value. She anticipates underwhelming performance in the future unless stablecoins can address the two main concerns of investors, security and value appreciation.
Meanwhile, Soltani anticipates a bright future for tokenized fiat currencies, predicting them to overshadow non-tokenized ones, regardless of who issues them, be it banks, Circle, Tether or others. She clarifies that the choice between Treasurys and stablecoins is a matter of economic and regulatory success.
PayPal recently launched a new stablecoin known as PayPal USD (PYUSD). The Ethereum-based, U.S. dollar-pegged stablecoin is issued by Paxos and backed by short-term U.S. Treasury bills and other cash equivalents. The advent of a stablecoin bearing the authority of a major U.S. institution like PayPal might boost investor confidence. However, Sarwate from CEX.IO is skeptical about tyrannical control diluting the intrinsic value of cryptocurrencies, suggesting this might be why PYUSD has struggled to secure investor support thus far.
While Sarwate believes the backing of a highly recognizable brand name like PayPal might encourage newcomers to crypto investing, Ripple's Soltani predicts considerable inflow into stablecoins if PYUSD is listed and accepted by merchants affiliated with Tether, potentially reshaping existing market shares. However, Soltani envisages market consolidation down to a few trusted names to prevent fragmentation of liquidity.
The stablecoin retreat appears to be a function of the relative stability of the cryptocurrency market and the lure of conventional yield-bearing assets that investors consider safe during market consolidation. The future is uncertain when it comes to stablecoins offering exposure to fixed income securities or whether on-ramps and off-ramps will become sufficiently seamless and efficient to cause major market fluctuations. The stablecoin uncertainty continues.
Published At
9/22/2023 1:03:00 PM
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