A brief history of stablecoin

A few days ago, when Bitcoin broke a record high, caijing.com initiated a vote at Weibo. What is interesting is that although Bitcoin broke a record high, more than half of the people still think Bitcoin is a scam. As the leading and the most well-known digital currency, Bitcoin is been regarded like this, there is no need to say more about other altcoins.

The reason why people have such a view of digital currency is that in addition to their disagreement with the ideas and core values of the blockchain, there is also the fear of huge fluctuations in the price of digital currency.The fear of “Black 312” is still vivid, and the “Christmas Bummer” has come as scheduled. Although the price of BTC has not fallen much this time, the lawsuit between Ripple and the SEC directly caused the price of a lot of altcoins plunge. Ripple, which was originally ranked third in market capitalization, has once again shown the huge volatility of cryptocurrency to the public with its sharp price drop in the past few days.

There are many problems caused by high volatility, the most obvious feature is high speculation and low usability. High speculation will attract many speculators, but they cannot serve as a medium of exchange and a unit of value, and thus cannot reach the mainstream and gain wider use scenario. Just imagine, if a merchant accepts digital currency payments, but the next day, the digital currency in the hands greatly depreciated, this is unacceptable to anyone. In order to solve the problem of volatility, stablecoins came into being. Stable currency can be understood as an encrypted asset that maintains a stable value for a target price. In order to solve the volatility problem, stablecoins appeared. Stablecoin can be understood as an encrypted asset that maintains a stable value for a target price.

Looking back at the development history of stablecoins, decentralization is a clear development trend, and the corresponding mechanism has also evolved from collateralized

to non-collateralized. According to whether it is centralized and whether there is collateral, I divide stablecoins into two categories and four subcategories:

Collateralized Stablecoins

Collaterilized stablecoins are the first category. The stablecoins in this category are mainly issued through asset collaterilizing, which can be divided into Fiat-Collateralized Stablecoin and crypto-Collateralized Stablecoin according to the type of collaterilized assets.

1. Fiat-Collateralized StableCoin

If you want to create a stablecoin that is stable enough, the first thing that comes to mind is to introduce the stable fiat in the real world to the chain, so a stablecoin project backed by fiat collateral is appeared.

The representative of the Fiat-Collateralized StableCoin is none other than Tether USD (hereinafter referred to as USDT). USDT is a StableCoin issued by Tether pegged to U.S. dollars. It is currently the most controversial StableCoin with the largest trading volume and the highest market value. According to the original design of Tether, every batch of USDT issued is to deposit the same amount of US dollars in a designated bank account, that is, USDT and US dollars are 1:1 pegged.

1Tether=1Dollar

（Pictures from the Internet）

Although Tether has always emphasized that it has sufficient reserves, it has failed to disclose to users the audit report that it originally promised to prove that it has sufficient reserves. Therefore, there have been controversies surrounding the authenticity of USDT reserves. Since the beginning of 2017, Tether has violated its original promise not to increase the supply of stablecoins, and has continued to issue new USDT, and is suspected of using the additional USDT to manipulate market prices together with Bitfinex. The nickname of “the Federal Reserve in crypto” also came from this.

To sum up, off-chain collateral and on-chain issuance can be regarded as the direct mapping of real-world fiat on the blockchain, and the stablecoin price is pegged to fiat. This method is simple and stable enough. Although the centralized offline collateral is difficult to be transparent in the collateralizing and issuance process, there is no need to consider the risk of funds being hacked. In addition to the above advantages, disadvantages also exist: the off-chain collateral is difficult to ensure the efficiency of the liquidation, and it takes a long time to liquidate the Fiat-Collateralized StableCoin into fiat and the handling fee is not cheap. The possibility of facing supervision and the necessity of regular review also need to be considered in the scope of risk.

2. Crypto-Collateralized StableCoin

The Crypto-Collateralized StableCoin is an attempt to decentralize the Fiat-Collateralized StableCoin from the original centralized Fiat-Collateralized StableCoin model. The facts have also proved the feasibility of this idea. The Crypto-Collateralized StableCoin can be regarded as the 2.0 version of the Collateralized StableCoin. The centralized Collateralized StableCoin is replaced with decentralized cryptocurrency. So far, the collateral issuance process can be completed on the blockchain. The connection between onchain and offchain is abandoned. It should be noted that because of the price volatility of cryptocurrency, if cryptocurrency is used for collateral, it will inevitably face stablecoin value fluctuations and liquidation problems caused by the fluctuation of the value of collateralized assets. Obviously, such unstable factors run counter to the idea of stablecoins.

So how to solve this problem when collateralized assets fluctuate in real time? The simplest and most effective method is to over-collateralize. The simplest understanding of the so-called over-collateralization is that the value of the collateralized cryptocurrency is higher than the value of the generated stablecoin to hedge against price fluctuations of the collateralized assets. The proportion of over-collateralization varies from project to project. DAI is the leader of such stablecoins. Behind it is MakerDAO, a well-known decentralized autonomous organization on the Ethereum blockchain. Let me take DAI as an example to explain to you the over-collateralized issuance mechanism of crypto-collateralized stablecoins.

At present, the Maker protocol has supported more than a dozen cryptocurrencies such as ETH, BAT, USDC and WBTC as collaterals, and users can generate DAI by over-collateralizing the above assets. Users can choose different types of collateralized assets according to their own assets and needs, and different types also correspond to different stable rates, liquidation lines, and liquidation penalties. Because of the over-collateralization, even if the price fluctuates, the value of the collateralized asset will still be greater than the value of the generated DAI, the value of DAI can still remain at $1. However, if there is a relatively volatile market that causes the value ratio of collateralized assets to generated DAI to be lower than the liquidation line, the system will automatically sell collateralized assets for liquidation, and users also need to pay a liquidation penalty.

In general, the decentralized collateral method adopted by the crypto-collateralized stablecoins is more transparent than the fiat-collateralized stablecoins process. Users can directly check various data onchain, and the efficiency when facing liquidation is much higher than that of fiat collateral. However, it is relatively inferior to the latter in terms of stability and safety, especially in the face of extreme markets. In addition, the design of over-collateralization guarantees the stability of the system while sacrificing the efficiency of the use of funds.

Through the above content, we can find that decentralization and ensuring the safety and usage efficiency of capital seem to be a challenge. In the face of such a dilemma, algorithmic stablecoins seem to give an answer that can be tried and explored.

Algorithmic Stablecoins

Algorithmic stablecoins are a hot spot this year, but their origins can even be traced back to the 1970s. Hayek first put forward the view that privately issued, non-collateralized, price-stable currencies may challenge the status of fiat. Whether it is AMPL (Ampleforth) or later ESD (Empty Set Dollar) and BAC (Basis Cash), they all performed well. Compared with collateralized stablecoins, the stability of Algorithmic stablecoins is mainly adjusted by the algorithm designed by the system itself. According to the number of tokens in the system, algorithmic stablecoins can be divided into single-token algorithmic stablecoins and multi-token algorithmic stablecoins.

1. Single-token Algorithmic Stablecoins

AMPL, not so much an algorithmic stablecoin, I am more inclined to say that it is actually a cryptocurrency with flexible supply and designed to maintain low volatility. In June 2019, AMPL launched on the Bitfinex exchange in the form of IEO. For a long time thereafter, AMPL did not have any amazing performance. Unexpectedly, with the help of DeFi in 2020, this project once again entered the public’s sight, In just a few months, the market value has increased 2500 times. AMPL’s elastic supply mechanism originates from the rebase algorithm, which sets a threshold. When the price of tokens falls below the threshold, the supply of tokens shrinks and stimulates the price of tokens; otherwise, the supply increases and pushes the price of tokens to fall. To put it simple, the AMPL’s rebase algorithm is: the AMPL token rebase threshold is $1. If the token price is higher than $1, new token will be issued; if it is less than $1, the token will be deflated. What needs to be addressed is that during the Rebase process, whether it is additional issuance or deflation, all account balances will be adjusted proportionally, and the proportion of AMPL held by users to the total amount will not change.

2. Multi-Token Algorithmic Stablecoins

There are two important tokens in the multi-token algorithmic stablecoins: ESD and BAC.

ESD has been improved on the basis of AMPL. Compared with AMPL’s rebase, which is issuance and deflation every 24 hours , the additional issuance of ESD increases the efficiency (rebase every 8 hours). At the same time, it also increases the collateral threshold. Users need to collateralize to obtain additional ESD. There are currently two collateral modes in the ESD system:

1. Directly staking with tokens. Staking ESD in DAO, the token staking pool will get 77.5% of the additional ESD, but it will take 5 days to unlock the staking part;
2. LP staking. Add liquidity to the ESD-USDC pool and stake LP into the LP reward pool. The pool will receive 20% of the newly allocated ESD. Although the allocation ratio is not as much as the token pool, the unlocking time is greatly shortened, which only takes 40 hours to be unlocked.

Some people may ask, if additional issuance can be solved by staking, what about deflation? In the ESD system, if the price of ESD is lower than the threshold and deflation is required, the currency will not be reduced at the moment. Instead, use bonds to destroy ESD to achieve reducing liquidity and increasing prices. Bonds have become the second type of token besides ESD in the system. Users can exchange ESD for bonds during the negative cycle. After entering the positive cycle, bond holders can use bonds to obtain more ESD.

ESD has done enough in the circulation of tokens. The setting of staking to receive additional issuance can effectively avoid the problem of selling pressure caused by additional issuance and reduce price volatility. The post-deflation bond setting also reduced the liquidity of ESD, and exchanged existing liquidity for more future returns.

BAC is a multi-token algorithmic stablecoin, and its system contains three tokens: Basic Cash (BAC), Basis Share (BAS) and Basis Bond (BAB). Although at present, BAC can be regarded as a new generation of algorithmic stablecoin after AMPL and ESD, its predecessor, Basecoin, started financing as early as in 2018, It was only later that it could only be off the market due to the US SEC supervision.

The Basis Cash protocol includes three tokens (Basic Cash (BAC), Basis Share (BAS), and Basis Bond). The role of BAS and BAB is to assist BAC and stabilize it at around 1 USD. Compared with ESD, BAC has added a new token BAS and introduced a dividend mechanism in addition to the bond BAB. Tokenization is carried out. When the price of BAC is lower than 1 USD, users will be able to purchase BAB bonds at the price of BAC*BAC to ensure the stability of the BAC price. The purchased bond can be redeemed at a ratio of 1:1 when the price of BAC is higher than $1. When the price of BAC is higher than $1, the contract will first redeem the BAB bond to adjust the price of BAC. If the price of BAC is still higher than $1 at the time, the contract will mint new BAC and redeem BAB first, and then assigned to users who staked BAS in Boardroom.

Let’s look at the mining mechanism of BAC. There are three mining pools in BAC. Pool 1 is a single-coin collateralized pool, which lasts for 5 days in total, and users can stake 5 stable coins to mine BAC losslessly. Pool 2 and Pool 3 are both LP pools. Users can stake LP to mine BAS. Pool 2 is the LP pool of BAC-DAI and Pool 3 is the LP pool of BAS-DAI. Pool 2 and Pool 3 can last for 1 year.

Value capture and risk warning

What do readers care the most about project? Is the value and prospect of this project? None of them. The most essential thing to uncover the existence of these appearances is value capture, that is, can you make money? How can you make money!

The first is the fiat-collateralized stablecoins such as USDT. There are many ways to obtain income, such as arbitrage, financial management income, price fluctuation arbitrage, and OTC trading arbitrage. Among them, I think that the method of arbitrage and profiting on OTC set a high requirements for users, and it must estimate the handling fee and transfer fee and the price fluctuation during the token transfer process. Therefore, financial management and arbitrage using price fluctuations are more suitable for most people. Financial management is easy to understand. If you are not in a hurry to buy in, you can deposit USDT in financial products that on some major exchanges, and the ROI is still considerable. In addition, although the price of USDT is relatively stable, it will still change with additional issuance and market. For example, in 2018, Tether fell into a crisis of trust, and the price of USDT dropped to $0.87. At this time, you can make a dip and sell when the price pulls back. The profit ratio will not be particularly high, but the risk is relatively low.

For crypto-collateralized stablecoins such as DAI, the first way to make profits is to use its collateral principle to create leverage for arbitrage. For example, under the condition that the market is considered to be on the rise, collateralize $1,000 of ETH to get $500 of DAI, and use the obtained DAI to buy ETH, which is equivalent to creating 1.5 times leverage and owning $1,500 of ETH. When the price of ETH increases, you can get 1.5 times the profit. The second way to profit is to deposit DAI into the system to earn interest. The first method requires a more accurate judgment of the price trend, otherwise the price will bear the loss of double leverage, and in the worst case, it will be liquidated. The second method is relatively simple, just deposit it, of course, the yield is naturally lower than the first one.

Finally, let’s talk about algorithmic stablecoins. The APY in the early stage of the project is relatively high. You can gain profit in one day. Once you enter the negative cycle, you can only rely on speculation and luck. Needless to say, AMPL and ESD, just buy and stake (for ESD). ESD bonds have a maturity period. If they have not entered the positive cycle for more than 30 days, the bonds will be destroyed, so I do not recommend newbies for buying them. There are two ways for BAC. The first is to hold BAC to make the market and use LP to mine BAS, and the second is to hold BAS and to stake and earn the dividends of BAC. The longer the algorithmic stablecoin is positive circulating, the higher the profit. If the price of the currency keeps rising, you can not only enjoy the increase in the price of the token, but also enjoy the double profit of additional issuance. “Making double profits” is simply a gospel for speculators. But if once you fall into a negative cycle and you can’t get out, the bleak result is naturally predictable. In view of the huge speculative and risky nature of algorithmic projects, I personally recommend that if you are not familiar with the rules, do not blindly participate.

How to participate

In the above, I briefly explained a few typical stablecoin projects. TP Wallet made a summary of the recent trending rebase algorithmic stablecoin projects, and introduced the rebase special category, and maintained a fairly high update speed. Some new projects can be found in the column not long after they launched. If you are interested in the rebase projects and are familiar with the rules, we offer you the entry to experince them all!

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