Author: YBB Capital Researcher Zeke
Foreword
According to CoinGecko data, the current total market capitalization of stablecoins has exceeded $200 billion. Compared to when we mentioned this track last year, the overall market value has nearly doubled and surpassed the historical high. I once compared stablecoins to a key link in the crypto world, serving as a stable value storage medium and a critical entry point for various on-chain activities. Now, stablecoins are starting to enter the real world, demonstrating financial efficiency that surpasses traditional banks in retail payments, business-to-business (B2B) transactions, and international remittances. In emerging markets such as Asia, Africa, and Latin America, the application value of stablecoins is also gradually being realized, as their strong financial inclusiveness allows residents of third-world countries to effectively cope with the high inflation caused by unstable government currencies, and they can also participate in some global financial activities and subscribe to the world's most cutting-edge virtual services (such as online education, entertainment, cloud computing, and AI products) through stablecoins.
Entering emerging markets and challenging traditional payments is the next step for stablecoins. In the foreseeable future, the compliance and accelerated adoption of stablecoins will be inevitable, and the rapid development of AI will also further increase the demand for stablecoins (for computing power purchases, subscription services, etc.). Compared to the development of the past two years, the only constant is that Tether and Circle still have an extremely high dominance in this track, and more startups are beginning to turn their attention to the upstream and downstream of stablecoins. But what we're going to talk about today is still the issuers of stablecoins. In this extremely competitive trillion-dollar track, who else can grab the next piece of the cake?
I. Evolution of Trends
In the past, when we mentioned the classification of stablecoins, we generally divided them into three categories:
Fiat-collateralized stablecoins: This type of stablecoin is backed by legal tender (such as the US dollar or Euro) as reserves, usually issued at a 1:1 ratio. For example, each USDT or USDC corresponds to one US dollar stored in the issuer's bank account. The feature of this type of stablecoin is relatively simple and direct, and it can theoretically provide a high degree of price stability;
Over-collateralized stablecoins: This type of stablecoin is created by over-collateralizing other more volatile and liquid high-quality crypto assets (such as ETH, BTC). To address potential price volatility risks, these stablecoins often require a higher collateral ratio, meaning the value of the collateral must significantly exceed the value of the minted stablecoins. Typical representatives include Dai and Frax;
Algorithmic stablecoins: They use algorithms to fully regulate their supply and circulation, with the algorithm controlling the supply-demand relationship to peg the stablecoin's price to a reference currency (usually the US dollar). Generally speaking, when the price rises, the algorithm will issue more coins, and when the price falls, it will buy back more coins from the market. Its representatives include UST (the stablecoin of Terra).
In the years since the UST collapse, the development of stablecoins has mainly revolved around micro-innovations around Ethereum's LST, constructing some over-collateralized stablecoins through different risk balancing. As for the term "algorithmic stablecoin", no one mentions it anymore. However, with the emergence of Ethena at the beginning of this year, stablecoins have gradually determined a new development direction, that is, high-quality assets combined with low-risk wealth management, thereby attracting a large number of users through relatively high yields, creating an opportunity to seize the market share in the relatively solidified stablecoin market pattern. The three projects I mentioned below all belong to this direction.
II. Ethena
Ethena is the fastest-growing non-fiat-collateralized stablecoin project since the Terra Luna collapse, with its native stablecoin USDe surpassing Dai to temporarily rank third with a size of $5.5 billion. The overall idea of the project is based on Delta Hedging of Ethereum and Bitcoin collateral, and the stability of USDe is achieved through Ethena's short-selling of Ethereum and Bitcoin of equal value on Cex. This is a risk-hedging strategy aimed at offsetting the impact of price fluctuations on the value of USDe. If the prices of the two rise, the short positions will incur losses, but the value of the collateral will also rise, offsetting the losses; and vice versa. The entire operation process relies on off-chain settlement service providers to implement, that is, the protocol assets are custodied by multiple external entities. The main sources of revenue for this project are:
Ethereum staking rewards: The LST staked by users will generate Ethereum staking rewards;
Hedging trading revenue: Ethena Labs' hedging trades may generate funding rates or basis spread;
Fixed rewards from Liquid Stables: Earning deposit interest in the form of USDC on Coinbase or other stablecoins on other exchanges.
In other words, the essence of USDe is a packaged low-risk quantitative hedging strategy wealth management product of Cex. Combining the above three points, Ethena can provide a floating annualized yield of tens of basis points (currently 27%) when the market is good and liquidity is extremely abundant, which is even higher than the 20% APY of the Anchor Protocol (the decentralized bank in Terra) a few years ago. Although it is not a fixed annualized yield, it is still extremely exaggerated for a stablecoin project. So, in this case, does Ethena also have extremely high risks like Luna?
In theory, Ethena's biggest risk source is the collapse of Cex and custodians, but this black swan scenario is unpredictable. Another risk that needs to be considered is a bank run. USDe's large-scale redemption requires a sufficient amount of counterparty liquidity, and given Ethena's rapidly growing size, this scenario is not impossible. If users quickly sell off USDe, causing the secondary market price to decouple, in order to restore the price, the protocol needs to close positions and sell the spot collateral to buy back USDe, a process that may turn unrealized losses into actual losses and ultimately exacerbate the vicious cycle. "1" Of course, the probability of this is much lower than the single-layer barrier breach of UST, and the consequences are not as severe, but the risk still exists.
Ethena also experienced a long downturn period in the middle of the year, and although its yields have dropped significantly and its design logic has been questioned, it has not actually encountered systemic risks. As a key innovation in this round of stablecoins, Ethena provides a design logic that integrates the mainnet with Cex, bringing a large amount of LST assets into the exchange, becoming the scarce short liquidity in the bull market, and also providing exchanges with a lot of transaction fees and fresh blood. This project is a compromise but very interesting design idea, which can maintain relatively good security while achieving high returns. In the future, with the rise of order book Dexes and more mature chain abstraction, will there be an opportunity to realize a fully decentralized stablecoin based on this idea?
III. Usual
Usual is an RWA (Real World Asset) stablecoin project created by former French National Assembly member Pierre PERSON, who was also an advisor to French President Emmanuel Macron. This project has seen a significant surge in popularity recently due to the news of its Binance Launchpool listing, with its TVL quickly jumping from the millions to around $700 million. The project's native stablecoin USD 0 adopts a 1:1 reserve ratio system, unlike USDT and USDC, where users no longer exchange fiat currency for an equivalent amount of virtual currency, but rather exchange fiat currency for an equivalent amount of US Treasuries, which is the core selling point of this project - sharing the profits that Tether earns.
As shown in the image, the left side is the operating logic of the traditional fiat-collateralized stablecoin. Taking Tether as an example, users will not receive any interest when minting USDT from fiat currency, and to some extent, Tether's fiat currency can be considered as "getting something for nothing". The company, through large-scale purchases of fiat currency to invest in low-risk financial products (mainly US Treasuries), earned a staggering $6.2 billion in profits last year alone, and then reinvested these profits into high-risk areas, effectively earning money while lying down.
On the right side is the operating logic of Usual, whose core concept is "Become An Owner, Not Just A User". The project design also revolves around this concept, redistributing the ownership of the infrastructure to the providers of the total locked value (TVL), that is, users' fiat currency will be converted into ultra-short-term US Treasuries as RWA, and the entire realization process is carried out through USYC (operated by Hashnote, which is currently one of the leading on-chain institutional asset management companies, supported by a partner of DRW), with the final earnings entering the protocol's treasury and owned and governed by the protocol token holders.
The protocol token USUAL will be distributed to the locked USD 0 holders (the locked USD 0 will be converted to USD 0++), realizing profit sharing and early alignment. It is worth noting that this lock-up period lasts for four years, consistent with the redemption time of some US medium-term Treasuries (US medium-to-long-term Treasuries are generally 2 to 10 years).
The advantage of Usual is that it maintains capital efficiency while breaking the control of centralized entities such as Tether and Circle over stablecoins, and distributes the profits equally. However, the relatively long lock-up period and lower returns compared to the crypto market may make it less attractive to retail investors in the short term, with the token value being the main draw. In the long run, USD 0 has more advantages, as it allows citizens of other countries without US bank accounts to more easily invest in US Treasury portfolios, has better underlying assets as support, and its decentralized governance means it is less likely to be frozen, making it a better choice for non-trading users.
IV. f(x)Protocol V2
f(x)Protocol is the core product of Aladdindao, and we have provided a detailed introduction to this project in last year's article. Compared to the two star projects mentioned above, f(x)Protocol is less well-known. Its complex design has also brought it quite a few flaws, such as being easily attacked, low capital efficiency, high transaction costs, and complex user access. However, I still believe this project is the most noteworthy stablecoin project born in the 2023 bear market, and I will provide a simple introduction to the project here. (For details, please refer to the whitepaper of f(x)Protocol v1)
In the V1 version, f(x)Protocol created the concept of a "floating stablecoin", which decomposes the underlying asset stETH into fETH and xETH. fETH is a "floating stablecoin" whose value is not fixed, but fluctuates slightly with the price of Ethereum (ETH). xETH is a leveraged long position on ETH, absorbing most of the price volatility of ETH. This means that xETH holders will bear more market risk and returns, but also help stabilize the value of fETH, making it relatively more stable. At the beginning of this year, following this idea, a rebalancing pool was designed, within which there is only one highly liquid and US dollar-pegged stablecoin, fxUSD. All other leveraged stablecoin pairs no longer have independent liquidity, but can only exist in the rebalancing pool or as a supporting component of fxUSD.
A basket of LSDs: fxUSD is supported by multiple liquid staking derivatives (LSDs) such as stETH and sfrxETH. Each LSD has its own stabilization/leverage mechanism;
Minting and redemption: When users want to mint fxUSD, they can provide LSD or extract stablecoins from the corresponding rebalancing pool. In this process, LSD is used to mint the stablecoin derivative of that LSD, which is then deposited into the fxUSD reserve. Similarly, users can also redeem LSD with fxUSD.
So in simple terms, this project can also be seen as a more complex version of Ethena and early hedging stablecoins, but in on-chain scenarios, this balancing and hedging process is very complex. First, it decomposes volatility, then there are various balancing mechanisms and leverage margin, the negative impact on user access has already exceeded the positive attraction. In the V2 version, the design focus has shifted to eliminating the complexity brought by leverage and providing better support for fxUSD, with the introduction of xPOSITION, which is essentially a high-leverage trading tool, a non-fungible, high-beta (i.e., highly sensitive to market price changes) leveraged long position product. This feature allows users to engage in high-leverage on-chain trading without worrying about individual liquidations or paying funding fees, with obvious benefits.
Fixed leverage ratio: xPOSITION provides a fixed leverage ratio, so users' initial margin will not be subject to additional margin calls due to market volatility, nor will it lead to unexpected liquidations due to changes in leverage ratio;
No liquidation risk: Traditional leveraged trading platforms may forcibly close users' positions due to drastic market fluctuations, but the design of f(x) Protocol V2 avoids this situation;
No funding fees: Typically, using leverage involves additional funding costs, such as interest when borrowing assets. However, xPOSITION does not require users to pay these fees, reducing the overall transaction cost.
In the new stablecoin pool, users can deposit USDC or fxUSD with one click to provide liquidity support for protocol stability. Unlike the V1 version stablecoin pool, the V2 version stablecoin pool serves as an anchor between USDC and fxUSD, and participants can engage in price arbitrage in the fxUSD-USDC AMM pool to help stabilize fxUSD. The protocol's revenue sources are based on position opening, closing, liquidation, rebalancing, funding fees, and collateral earnings.
This project is currently one of the few non-overcollateralized and fully decentralized stablecoin projects, but for stablecoins, it still seems a bit too complex and does not meet the premise of simple design. Users also need to have a certain foundation to feel at ease. In extreme market conditions, when bank runs occur, the various defensive barriers designed may also end up harming users' interests. But the project's goal is indeed in line with the ultimate vision of every crypto enthusiast for a stablecoin - a decentralized stablecoin backed by top-tier crypto assets.
Conclusion
Stablecoins are always a battleground, and also a highly competitive field in Crypto. In last year's article "Teetering on the Brink of Extinction, but Innovation in Stablecoins Continues", we briefly introduced the past and present of stablecoins, and hoped to see some more interesting decentralized non-overcollateralized stablecoins emerge. A year and a half has passed, and we have not seen any startup projects other than f(x)Protocol working in this direction, but it is gratifying that Ethena and Usual have provided some compromise solutions, at least we can now choose some more ideal, more Web3 stablecoins.
Reference articles
1.Mario's View on Web3: In-depth Analysis of Ethena's Success Reasons and Death Spiral Risks
