Stablecoins Investment Strategies
It’s estimated that there’re more than 200 stablecoins worldwide. These are cryptocurrencies that are tied to a reserve asset. For example, there’re stablecoins based on commodities like gold, such as PAXG, which represents one fine troy ounce of a London Good Delivery gold bar. Then, there’re crypto-based stablecoins that are backed by other cryptocurrencies. An example is MakerDAO’s DAI. Although it’s pegged to the US dollar, DAI is backed by Ethereum and other cryptocurrencies.
In this article, we’ll focus mainly on fiat-based stablecoins. They store a reserve of the underlying fiat currency, such as US dollars, as collateral to maintain the value of the stablecoin. The best-known fiat-based stablecoins are USDTand USDC.
Use Stablecoins to Protect your Portfolio
Because stablecoins are designed to retain their value, they don’t fluctuate as much, unlike other crypto assets that have high volatility.
In other words, your portfolio will preserve its value even in a declining market and may even bring in additional income thanks to blockchain-specific opportunities, as explained below.
Annual Percentage Yield (APY)
Most Decentralized Finance or DeFi opportunities regarding stablecoins revolve around locking up your coins to generate high yields. The most relevant financial ratio is the Annual Percentage Yield in this context.
APY represents the real rate of return earned on a one-year investment if the interest is compounded. Compounding is the process by which your account balance is reinvested to create additional returns over time. Since, in the case of reinvestment, your account balance grows slightly larger with each investment period, the interest paid also increases.
In cryptoland, there’re opportunities with much higher APYs than traditional finance but always remember that higher returns come with higher risks.
With that in mind, let’s look at various ways you can earn with stablecoins.
Assume you have $1,000 in savings. What would you do in a more conventional investment approach? Rather than letting your savings sit in an account, you would deposit them into a fixed-interest savings account and earn interest. But bank interest rates are too low these days. Guess what? Thanks to crypto markets, there’s a better way to do it with substantially higher returns: it’s called yield farming.
Yield farming is the practice of placing assets into DeFi protocols to generate earnings. It can take many different forms. Liquidity farming, in which you contribute to liquidity pools, is one of the most popular versions. In return for providing liquidity, you gain protocol-native tokens as rewards.
Take Compound protocol, for example. When you deposit stablecoin USDC into this protocol, you receive an equivalent amount of the protocol’s native cUSDC tokens, which earn interest for you automatically.
Another intriguing application is Curve.Finance. It’s a decentralized cryptocurrency exchange that exclusively deals in stablecoins. In this case, liquidity pools offer low slippage amounts and high returns on the provided liquidity.
Thanks to DeFi, you can also access a stablecoin loan at low-interest rates and use it for trading or other investment opportunities, just as you would with bank credit.
When you borrow a loan, you receive newly minted coins that an individual or an institution has lent. In order to protect the lender, you must provide collateral. Collateralization also allows the borrower to repay the loan over a longer period of time.
In most cases, the loan-to-value (LTV) ratio is low, especially if the currency you use as collateral is a risky cryptocurrency. A high LTV means your loan will be much smaller than the collateral you put up. Let’s say you provide 0.5ETH, with an LTV of 50% you receive an equivalent of 0.25ETH approx. as a loan.
This difference is necessary to account for the fluctuations in the value of the collateral. Otherwise, the collateral can be liquidated overnight at a loss. Stablecoins have advantages here. Since they are much less volatile than other cryptocurrency pairs, LTV is usually higher.
As an important application, we can mention Aave, which is one of the largest DeFi protocols. Using Aave, you can use a cryptocurrency as collateral and get a stablecoin loan in return.
An alternative scenario is to borrow and lend two different stablecoins. For instance, on the Binance loan platform, you can borrow USDC or BUSD stablecoins by using USDT as collateral. At the time of writing, the LTV is 65% for both pairs.
Compound protocol also offers loan opportunities for using two different stablecoins as collateral and borrowing currency. When you do this, you also earn COMP tokens, the governance token of the protocol.
Use Yield Aggregators to Maximize Earnings
There are so many DeFi protocols that offer similar lend and borrow opportunities. In order to optimize rewards provided by various protocols, you can use aggregators.
A leading application in this field is yearn.finance. It combines numerous DeFi protocols and moves a user’s assets from one protocol to another in order to maximize APY.
Stablecoins are used to create synthetic assets. A synthetic asset is a digital representation of a real-world asset, for example, a stock. In order to maintain the price of the synthetic asset equal to the underlying asset, a basket of stablecoins is used. In order to keep the price at the required level, the algorithm adds or removes stablecoins.
For instance, Synthr lets its users provide stablecoins as collaterals and mint a synthetic asset its platform offers. In this way, users can earn interest based on yield farming opportunities based on that particular synthetic asset. This is a doorway to a whole new world of asset classes like crypto derivatives, Forex, and company stocks.
The world of crypto including what has been made possible by stablecoins opened up many avenues for new investments that can generate high returns but at the same time present high risks as it is still in its initial stages.
As with any trading or investment opportunity, including cryptos, you should never see stablecoins as a safe haven. They also pose significant risks. Before making any investment decision, always conduct your own research.