With all the volatility in the cryptocurrency world these days, everyone in the markets is looking for ways to find some price stability. Investors have several different options when it comes to finding a more stable asset, including trading back to fiat currency for a while, but what about keeping their assets in the crypto markets? That’s where “stable coins” come into play.
But what are they and how are they any different from regular cryptocurrencies? Let’s take a look at the differences and why you should consider them in your investment strategy.
Traditional Cryptocurrencies vs Stable Coins
There are always differences between crypto projects and what the specific coins have to offer, but stable coins introduce an entirely new advantage over traditional cryptocurrencies. When we compare the two directly, the advantages start becoming obvious in terms of mitigating volatility.
Traditional Cryptocurrencies
Most investors are likely already familiar with traditional cryptocurrencies. Looking at the history of the movement and the underlying blockchain technology, we know that the value and price attributed to the coins derives from both utility of the coin or token, as well as acceptance by others in the markets. This leaves a lot of room for drastic price movement.
To better understand the significance of the difference between the two types of coins, investors really need to know how cryptocurrencies work. Knowing the technology behind the new asset class is already a prerequisite for most investors as more knowledge aids in better investment decisions. After understanding the fundamentals of traditional cryptocurrencies, it makes it easier to understand why stable coins exist and the need they fill in the market. The key difference, though, is that traditional cryptocurrencies, like fiat, are not “backed” by anything. Instead, the value of the cryptocurrency is dependent on the use-case and acceptance by others.
Stable Coins
Unlike more traditional cryptocurrencies, stable coins provide a new way to shelter investors’ funds from the volatile markets. Stable coins offer all the traditional benefits of cryptocurrencies like blockchain technology, a distributed ledger, and a decentralized network, but with one key difference: asset backing.
Stable coins don’t rely solely on utility and acceptance for their value. Instead, they’re like original fiat currencies once backed by gold. Stable coins are a cryptocurrency that have been ‘pegged’ to another asset. That asset can be anything from a fiat currency (like the US dollar with Tether) to precious metals (like gold and silver with Quintric), and everything in between.
These coins offer a significant inherent value to each coin and token by having them represent ownership of another asset. For example, a gold-backed cryptocurrency will always represent a minimal amount of value: a specific denomination of gold. Because of that backing, even if the markets were to decline as a whole, the backed assets are still worth the amount of gold each represents.
There are a few different ways to run a pegged asset, but typically there are a specified amount of coins available for purchase and the issuing authority has the corresponding amount of assets backing them vaulted for storage. When done correctly, investors can go to the issuing authority and exchange their coins for the asset on demand.
Importance
By having a price-stable cryptocurrency included in a portfolio, investors have the ability to protect their investments from drastic price movements during uncertain times in the market. These coins play a crucial role in offering investors and traders an important tool for risk mitigation.