2024 Guide: Which Stablecoin is the Safest for Your Business?

Introduction

Digital currencies have emerged as a promising alternative to traditional payment and settlement methods. Today, they constitute around 10% of the entire cryptocurrency market by market cap. Despite a temporary contraction during the 2022 crash, the market capitalization and trading volumes have nearly rebounded to their 2022 peak. Notably, 75% of digital asset owners now hold stable digital currencies, bridging the gap between traditional finance and the burgeoning world of digital assets. With global legislation moving towards regulation, adoption and innovation are set to accelerate.

Despite their growing presence, some businesses still view these digital assets as risky due to their operation outside the traditional banking ecosystem. To mitigate this risk, many businesses partner with fintech companies like TransFi. These partners handle exposure to digital currencies, collecting payments and managing conversions to fiat currency. This allows clients to benefit from adoption without associated risks.

In this article, we will assess the safety of stablecoins as a medium for payment and settlement, and as a store of value.

Are Stablecoins Safe? Unveiling the Safest Options for Your Business

To determine the safety of stablecoins, businesses must consider several key factors. This article compares stablecoins to cryptocurrencies like Bitcoin in terms of safety. We will delve into the various types of stablecoins and their risk mitigation strategies, highlighting the ones to watch. Additionally, we'll provide an overview of global regulations and their impact on safety. Let's dive into the world of these digital assets and discover the safest options for your business!

Stablecoins vs. Cryptocurrencies: Which One Offers Greater Safety?

First, let's clarify what we mean by a stablecoin and how it differs from other cryptocurrencies.

Stablecoins are a unique type of cryptocurrency specifically designed to minimize price volatility. They achieve this stability by pegging their value to more stable assets, usually fiat currencies or hard commodities like gold. To maintain their stable prices, operators of stablecoins either hold physical reserves of the underlying asset or use sophisticated algorithms to balance supply and demand fluctuations. These operators are typically private organizations or foundations, such as Tether Limited for Tether or Centre, a consortium founded by Circle, for USD Coin. Stable coins, like Tether and USD Coin, are important for cryptocurrency users as they provide a way to mitigate volatility and protect investments from price fluctuations, making them a more reliable medium of exchange compared to other cryptocurrencies. However, it is important for businesses to carefully consider which stablecoin they choose to use, as each stablecoin has its own mechanism for maintaining its value and may offer varying levels of safety for their token holders.

Stablecoins offer a safer alternative to traditional cryptocurrencies by providing price stability, making them an attractive option for businesses and investors alike.

Criteria 1: Price Stability

Stablecoins address one of the most significant risks associated with cryptocurrencies: their notorious price volatility. Traditional cryptocurrencies, with their wild price swings, pose substantial risks for businesses relying on them for payments and settlements. This unpredictability complicates accurate pricing of products and services and makes it challenging to determine the best time to convert cryptocurrency into fiat currency. As a result, cash flow, profitability, and financial planning can all be adversely affected by price fluctuations. Businesses holding cryptocurrencies as balance sheet assets also struggle with this instability.

However, the degree of price stability in a stablecoin largely depends on the mechanisms employed to maintain its peg. There are four primary strategies that stablecoins use to achieve this stability:

Fiat-Collateralized Stablecoins

Fiat-collateralized stablecoins, also known as off-chain stablecoins, are anchored by reserves of traditional fiat currencies, such as the US dollar, stored in a bank account or custody service. The supply of these stablecoins matches the fiat currency reserves held. Prominent examples include Tether (USDT) and USD Coin (USDC).

Commodity-Collateralized Stablecoins

Commodity-collateralized stablecoins are tied to reserves of physical assets like gold, silver, or other commodities. Each coin in circulation is backed by a corresponding quantity of the commodity, ensuring its value reflects that of the underlying asset. Examples include PAX Gold (PAXG) and Tether Gold (xAUT).

Cryptocurrency-Collateralized Stablecoins

Cryptocurrency-collateralized stablecoins, also known as on-chain stablecoins, are secured by reserves of other cryptocurrencies such as Ether (ETH) or Bitcoin (BTC). These digital assets utilize smart contracts to lock in cryptocurrency reserves. Notable examples include Dai (DAI) and Wrapped Bitcoin (WBTC).

Algorithmic Stablecoins

Algorithmic stablecoins, also known as non-collateralized or seigniorage-style, rely on algorithms and smart contracts to regulate supply and maintain value. When prices rise above the peg, the algorithm increases supply; when prices fall, it decreases supply. USDD is an example. These types have proven less reliable, often suffering significant sell-offs when market confidence drops, as seen with TerraUSD in May 2022, and others like Basis Cash and Empty Set Dollar.

Fiat-collateralized types also carry risks. In March 2023, USD Coin (USDC) dropped to 87 cents due to $3.3 billion in reserves at the collapsed Silicon Valley Bank (SVB), leading to rapid redemptions and price slippage. Tether (USDT) lost its dollar parity twice in 2022, dipping as low as $0.9959 in May and $0.9975 a month later. These fluctuations can impact businesses using digital currencies for payments or holding large volumes on their balance sheets, especially during market volatility.

Despite these incidents, these digital assets have shown resilience. Pegs were restored within days, demonstrating their ability to recover and maintain stability amidst market turbulence. This resilience highlights their potential as reliable tools for businesses, provided risks are managed effectively.

Criteria 2: Counterparty Risk

The safety of a stablecoin hinges on its issuance method, either centralized or decentralized. Centralized versions are managed by a single entity that oversees reserves and issuance, such as fiat-collateralized and collateral-collateralized types. Users must trust the issuer, similar to traditional banks, and should seek those with independent reserve audits, like Tether and USD Coin. However, counterparty risk remains, exemplified by Tether's reserves at Deltec Bank in the Bahamas, which serve as the reserve asset for the stablecoin.

Decentralized types, including cryptocurrency-collateralized and algorithmic versions, operate without central control, using algorithms and smart contracts recorded on blockchains. While considered "trustless," they are influenced by governance models and protocols. Businesses should review whitepapers, governance models, and security assessments of these digital assets, like Dao and Reserve Dollar (RSV).

Counterparty risk applies to all cryptocurrencies, whether centralized or decentralized. Businesses must be vigilant about ownership and operational protocols.

Criteria 3: Regulations

The regulatory landscape for stablecoins is evolving positively, with new regulations aimed at protecting merchants and customers. In the United States, a new draft bill proposes that the Federal Reserve approves any non-bank stablecoin issuers, including those located abroad but offering their stablecoins on US exchanges. Criteria for approval include proving reserves, technical expertise, governance, and financial innovation initiatives.

The EU's MiCA framework and the UK's FSMB impose transparency and consumer protection obligations. Despite progress, these digital assets remain less regulated than fiat currencies, posing risks if a stablecoin loses its peg or ceases operation. For example, the algorithmic Fei stablecoin shut down in August 2022 due to regulatory concerns. Over one-third of stablecoins have failed, underscoring the need to trust those with proven track records and strong management.

Stablecoins like Gemini Dollar (GUSD), Binance USD (BUSD), and Pax Dollar (USDP) are regulated by the New York State Department of Financial Services. USD Coin (USDC), managed by Centre and backed by Coinbase and Circle, is regulated by the UK's FCA and the U.S. FinCEN, making it a safe and reliable form of payment for businesses. In order to use USDC, businesses must have an Ethereum wallet, ensuring secure and efficient transactions. This regulatory trajectory supports the legitimacy of these digital currencies as a form of payment, providing businesses with greater confidence in their stability and safety.

FAQ's

What factors determine the safety of a stablecoin?

The safety of a stablecoin depends on factors like the asset backing it, transparency of reserves, regulatory compliance, and the stability of its peg. Audits, issuer reputation, and market demand also play vital roles in determining the overall safety and reliability of a stablecoin.

Is USDC safe?

Yes, USDC (USD Coin) has managed to maintain a stable value close to $1 with minimal price fluctuations. It achieves it's stability by being pegged to a specific fiat currency or asset, ensuring that it's value remains relatively constant.

Conclusion: What’s the Safest Stablecoin for Business Use in 2024?

The sheer size of the stablecoin market is a testament to its safety. Stablecoin trades worth billions of dollars occur daily, with settlements reaching approximately $9 trillion in 2023, surpassing volumes of major card networks like Mastercard and American Express. By the end of 2024, it's expected that on-chain stablecoin volumes will surpass Visa's, the world’s largest card network.

Major financial players developing stablecoin solutions should also boost business confidence. Visa is exploring using USD Coin and the Ethereum network for global settlements. TransFi offers merchants the ability to make payouts in USD Coin, facilitating easier international money transfers. TransFi’s own cross-border payment solution uses stablecoins to help businesses settle funds globally and seamlessly trade between currencies with stable value.

However, as we've explored, different stablecoins come with different risks. Algorithmic stablecoins have a poor track record of lasting success but offer operational transparency. Centralized stablecoins tend to be more stable and aligned with regulations, yet there have been instances of them losing their peg or facing controversies about their reserves. With the rapid growth of the stablecoin market, it is crucial for businesses to carefully consider the safety and stability of their chosen stablecoin in order to protect their assets.

To help businesses choose the most appropriate stablecoins, we recently published an in-depth look at the 11 best stablecoin picks. These stablecoins represent 98% of the market by cap. This maturity, deep liquidity, and scale make them more likely to withstand market shocks and navigate evolving regulations.

Among these 11 stablecoins, those with a fiat-collateralized mechanism (Tether, USD Coin, Binance USD, True, Pax Dollar, and Gemini Dollar) offer businesses the easiest way to bridge traditional and cryptocurrency payment and settlement systems, supporting a flexible approach to stablecoin adoption.

Businesses can mitigate many risks and uncertainties by processing payments and settlements through a third party. These third parties, often fintech companies like TransFi, take on the full exposure to stablecoins when converting between fiat currencies. Using TransFi’s platform, businesses can seamlessly incorporate stablecoins into their fiat payment and settlement flows, ensuring stability and confidence in their transactions.

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