Forward the Original Title ‘【万字长文研报】稳定币赛道：模式、运行原理、趋势及香港稳定币的思考’

From the data of Token Terminal, we can see that the monthly stablecoin transaction volume has increased tenfold, from $100 billion per month to $1 trillion. On June 20, 2024, the total trading volume of the entire cryptocurrency market was $74.391 billion, with stablecoins accounting for 60.13% of that, approximately $44.71 billion. Among them, USDT (Tether) was the most used, with a market value of $112.24 billion, accounting for 69.5% of the total value of all stablecoins. On June 20, USDT’s trading volume reached $34.84 billion, accounting for 46.85% of the total trading volume for the day.

Stablecoins, an important presence in the cryptocurrency market, are essentially cryptocurrencies pegged to fiat currencies or other assets to achieve value stability. The Bank of International Settlements defines stablecoins as “cryptocurrencies pegged to fiat currencies or other assets.” This design aims to ensure that stablecoins maintain a stable value relative to the pegged specific asset or basket of assets, thereby achieving stable value storage and a medium of exchange. This mechanism is very similar to the gold standard, but since they are issued on the blockchain, they also possess the characteristics of decentralized, peer-to-peer transactions, no need for central bank clearing, and immutability of crypto assets.

Aiying’s report will delve into the definition and main models of stablecoins, analyze the current market landscape and competitive situation, and focus on the operating principles, advantages, and disadvantages of fiat-collateralized, crypto-asset-collateralized, and algorithmic stablecoins, as well as the performance and future development prospects of different types of stablecoins in the market.

1. Definition and Main Models of Stablecoins

1.Basic Definition: Pegged to Fiat Money, Value Stability

Stablecoins, as the name suggests, are cryptocurrencies with stable value. The Bank of International Settlements defines stablecoins as cryptocurrencies pegged to fiat currencies or other assets. Extending from this, the primary purpose of establishing stablecoins is to maintain a stable value relative to the pegged specific asset or basket of assets, thereby achieving stable value storage and a medium of exchange. In this regard, it is quite similar to the gold standard. Since they are issued on the blockchain, they also have the characteristics of decentralized, peer-to-peer transactions, no need for central bank clearing, and immutability of crypto assets.

The main difference between the value stability of stablecoins and the value stability pursued by traditional central banks for fiat currencies lies in that stablecoins seek exchange rate parity relative to fiat currencies, while fiat currency values aim for intertemporal purchasing power stability. In simpler terms, stablecoins essentially aim to peg to the fiat currency system to achieve token value stability.

2.Main Models: Collateralized Assets and Degree of Centralization

For stablecoins, if you want to ensure the peg to the fiat currency system, based on the underlying asset backing, they are divided into collateralized and uncollateralized types, and in terms of issuance, they are divided into centralized and decentralized types. For value stability, using real-world valuable assets as collateral to issue stablecoins and achieve a peg to fiat currency is the easiest and relatively safest way, with a high collateral ratio indicating adequate solvency. According to the type of collateral, they are further subdivided into fiat-collateralized, crypto-asset-collateralized, and other asset-backed collateralized types.

Specifically, it can be broken down as follows:

As can be seen from the above table, in terms of the basic operating model, the value stability of stablecoins mainly relies on collateral assets or algorithmic regulation to stabilize the price of stablecoins within a controllable legal currency exchange range. The key is not the fluctuation of coin prices, but how to reasonably correct this fluctuation so that it operates within a stable range.

2. Overview and Competitive Landscape of the Stablecoin Market

1.From the perspective of pegging to fiat currencies: The U.S. dollar dominates almost the entire market

From the perspective of pegged prices, except for PAXG and other stablecoins pegged to the price of gold, 99% of stablecoins are pegged 1:1 to the U.S. dollar. There are also stablecoins pegged to other fiat currencies, such as EURT pegged to the euro with a market value of $38 million, GYEN pegged to the Japanese yen with a current market value of only $14 million, and IDRT pegged to the Indonesian rupiah with a market value of $11 million. The overall market value is very small.

Stablecoins pegged to the U.S. dollar currently account for about 99.3% of the market, with the remaining mainly comprising the euro, Australian dollar, British pound, Canadian dollar, Hong Kong dollar, Chinese RMB, etc.

Stablecoin-anchored fiat currency market share. (Source: The Block)

2.From market share and market value: USDT is the absolute leader, with USDC catching up

The issuance volume of stablecoins is closely related to market trends. Monitoring data shows that overall issuance volume has been continuously increasing, but there was a decline during the last bull-to-bear transition (March 2022). Currently, it is in a marginal issuance upward phase, which also indicates the current bull market.

Chart 3: Historical issuance of stablecoins (Source: The Block)

According to the latest data from coingecko, as of May 4th, in the stablecoin sector, USDT has a market share of 70.5%, followed by USDC at 21.3%, DAI at 3.39%, FDUSD at 2.5%, and FRAX at 0.41%.

Chart 4: Stablecoin track market share (Source：coingecko)

Additionally, in terms of market value, the total market value of all stablecoins is over $160 billion, with USDT far ahead and growing steadily. Its current market value exceeds $110 billion, USDC’s market value is steadily rising, reaching over $33 billion, but still lags behind USDT. Other stablecoins have remained relatively stable.

Chart 5: Market capitalization of mainstream stablecoins (Source: Coingecko)

3.From the top ten by market value: Fiat-backed stablecoins dominate, covering various types of stablecoins

Among the current top ten mainstream stablecoins, centralized USD-backed stablecoins such as USDT, USDC, and FDUSD have a broad collateralization rate of over 100%. DAI is a decentralized stablecoin collateralized by crypto assets; USDe is a synthetic USD backed by crypto assets; FRAX is an algorithmic stablecoin; and PAXG is a gold-backed stablecoin.

Chart 6: Market capitalization of mainstream stablecoins (Source: Coingecko)

4.From the perspective of holding addresses: USDT remains stable, while USDC has recently shown weakness

The changes in the number of holding addresses for both can be clearly seen. The sharp decline in holding addresses for both was due to de-pegging from the USD. On March 11, 2023, USDC was affected by the SVB debacle, temporarily de-pegging from the USD and dropping to around 0.88, causing a rapid decrease in holding addresses. Although it later recovered, the number of holding addresses once again fell behind USDT.

Chart 7: USDT vs USDC currency holding address changes (Source: The Block)

As shown in the charts above, after the de-pegging event, USDC addresses with more than $1,000 to over $10 million have all decreased significantly. Compared to the peak, it dropped by about 30%, while USDT steadily increased.

3. What are The Operating Principles, Advantages, and Disadvantages of Mainstream Stablecoins?

Following the previous analysis, mainstream stablecoins are currently mainly distinguished by the type of collateral asset and the degree of centralization of issuance. Generally speaking, fiat-collateralized stablecoins are mostly issued centrally, and they currently dominate the market. Crypto-collateralized or algorithmic stablecoins are mostly issued in a decentralized manner, and each track has its leader. Each stablecoin design framework has its own advantages and disadvantages.

1.Fiat-collateralized stablecoins (USDT\USDC)

1) Main Operating Principle of USDT

• Basic Introduction:

In 2014, Tether, a company under iFinex, created the stablecoin USDT. The company also owns the cryptocurrency exchange Bitfinex, both registered in the British Virgin Islands, with headquarters in Hong Kong. Tether’s headquarters are in Singapore. The current CEO is Paolo Ardoino (former CTO of the company), an Italian who initially developed trading systems for hedge funds. He joined Bitfinex as an executive in 2014 and Tether in 2017. He currently owns 20% of Tether’s shares.

• Issuance and Circulation:

It involves five main steps. First, the user deposits dollars into Tether’s bank account. Second, Tether creates a corresponding Tether account for the user and mints an equivalent value in USDT. Third, the USDT circulates in transactions between users. Fourth, during the redemption phase, if the user wants to redeem dollars, they must return the USDT to Tether. Fifth, Tether destroys the corresponding value of USDT and returns dollars to the user’s bank account.

Chart 8: The entire process of USDT issuance, trading, circulation, and recycling (Source: Tether company white paper)

Technical Implementation: Issuing USDT entails blockchain technology to achieve the above steps, divided into three layers.

• The first layer is the blockchain mainnet, initially based on the Bitcoin blockchain, now expanded to over 200 public chains. USDT transactions are integrated into the blockchain through the Omni Layer Protocol.
• The second layer is the Omni Layer Protocol, which serves the Bitcoin blockchain for minting, trading, and storing USDT. Since 2019, USDT minting has gradually shifted to Tron and Ethereum, primarily using the TRC-20 and ERC-20 protocols.
• The third layer is Tether, responsible for issuance and management, including audits of collateral assets.

Chart 9: USDT technology implementation architecture (taking the Bitcoin network as an example) (Source: Tether company whitepaper)

Fundamental to the issuance and technical implementation is Tether’s Proof of Reserves mechanism, ensuring that for every USDT minted, Tether adds an equivalent dollar reserve. In other words, for every USDT issued, there must be an equivalent dollar in collateral to ensure 100% backing.

Asset (Collateral) Reserves: The total asset reserve currently exceeds 110 billion dollars, consistent with its market value. Breakdown of asset reserves: cash and cash equivalents constitute 83%, other assets 17%.

More specifically, cash and cash equivalents primarily consist of short-term US Treasury bills (about 80%), overnight repurchase agreements (around 12%), and the remainder in money market funds, cash and bank deposits, term repurchase agreements, and non-US government bonds. Other asset categories include Bitcoin, high-grade corporate bonds, precious metals, and mortgage loans, with significant portions in Bitcoin and mortgage loans.

Chart 10: Tether asset reserve composition, data as of the first quarter of 2024 (Source: Tether official website)

Audit reports from the past three years indicate that Tether’s asset reserves closely follow macroeconomic conditions, with increasing proportions of US short-term Treasury bills and money market funds, while reducing corporate bonds, cash, and bank deposits. Due to the varying maturities of these assets, the largest risk of shorting USDT arises from maturity mismatches. Audit data shows that Tether’s Treasury bills and term repurchase agreements are ultra-short-term, under 90 days. The only longer-term assets are corporate bonds and non-US government bonds, with maturities within 150 and 250 days, respectively.

This asset allocation indirectly enhances their asset operation yields while reducing risk factors, further improving asset security. Particularly, shorter maturities prevent shorting due to maturity mismatches.

Business Model:

• Cost Side: Minimal technical and operational staff, extremely low marginal costs
• Revenue Side: Service fees after KYC registration ($150 per person), deposit and withdrawal fees (around 0.1%), interest income (e.g., 4-5% yield on short-term Treasury bills with zero cost, plus loan interest income), custody fees (for institutions holding assets with Tether). In Q1 2024, Tether reported a net profit of $4.5 billion, a record high, with only about 100 employees. In contrast, Goldman Sachs and Morgan Stanley, with similar profits, have over 50,000 employees each. Their profit efficiency is exceptionally rare.

2) Main Operating Principle of USDC

Similar to USDT, USDC is issued, circulated, and technically implemented in a similar manner, being pegged to 1 USDC = 1 USD. It was created by Coinbase and Circle in 2018, later than USDT, but with some differences in specific operational details:

• Higher transparency of asset reserves: Unlike USDT, which discloses asset reserves quarterly, USDC releases its asset status monthly. Third-party audit firms audit these reserves annually, initially by Grant Thornton and changed to Deloitte in 2023. As of March 2024, the circulating USDC is $32.2 billion, with Circle holding equivalent assets of about $32.2 billion, roughly equal.

Chart 11: The entire process of USDT issuance, trading, circulation and recycling

Asset reserves are mainly short-term US Treasury bonds and cash, with shorter maturities and higher liquidity compared to USDT: Unlike USDT, which only discloses the overall maturity of Treasury bonds, USDC publishes the maturity dates of its main Treasury assets. According to data disclosed in March, all maturities are within three months, with the latest maturing in June, totaling $11.4 billion. Additionally, there are repurchase agreements and cash reserves, totaling $28.2 billion, plus another $4.2 billion in cash, all held in the CRF (Circle Reserve Fund) registered with the SEC by BlackRock. Overall, about 95% of its assets are under SEC regulation. Due to the higher cash ratio of its assets, the liquidity for redemptions is also higher than USDT.

Chart 12: USDC reserve assets, as of March 2024 (Source: Circle official website)

• USDC was created under the US regulatory framework, giving it higher legal status: Circle is registered as a money services business with the Financial Crimes Enforcement Network under the US Treasury Department and operates under state laws governing money transmission businesses, generally regarded as a form of prepaid value by regulators. Unlike USDT, USDC’s reserve assets are segregated. Should Circle go bankrupt, these reserve assets would be protected under New York banking law and federal bankruptcy law.
• USDC does not directly exchange with individuals: For amounts above $100,000, USDT can be directly exchanged with Tether by paying a registration fee, but Circle operates based on customer tiers. Only its partners or Class A users (exchanges, financial institutions) are eligible to exchange with Circle. Ordinary individual users (Class B) must go through third-party channels (such as Coinbase). Additionally, in terms of profit sources, USDC is similar to USDT, but due to USDC’s assets being mainly short-term Treasury bonds and cash, its risk exposure is lower than USDT, thus the yield is relatively lower.

3) Main Operating Principle of FDUSD

After the New York State Department of Financial Services ordered the cryptocurrency company Paxos to stop issuing new BUSD, Binance, the world’s largest exchange, also stopped supporting BUSD products on December 15, 2023. They announced that BUSD balances would be automatically converted to FDUSD. Since then, FDUSD’s market value has steadily increased, ranking third among fiat-collateralized stablecoins.

• Basic Introduction:

FDUSD is a USD-pegged stablecoin launched by FD121 (First Digital Labs) in June 2023. Its parent company, First Digital Trust, is a qualified custodian and trust company in Hong Kong, primarily engaged in digital asset-related businesses. It was established by Legacy Trust in 2017 and became a fully independent public trust company in 2019. Legacy Trust, founded in 1992, is an established public trust company.

• Operating Model:

FDUSD operates similarly to USDT and USDC. Users deposit dollars, and the issuer mints the corresponding amount of FDUSD. Similarly, when dollars are withdrawn, the equivalent amount of FDUSD is destroyed. FDUSD’s audit firm is Prescient Assurance (a New York-based accounting firm and a globally top 20 CREST-certified security testing and auditing organization), with contract audits conducted by PeckShield.

• Asset Disclosure and Reserves:

Like USDC, FDUSD also discloses its assets monthly. Its reserve assets are managed by a public trust company in Hong Kong, though the specific financial institutions holding the reserves are not disclosed. It is confirmed that these institutions have an S&P rating of A-2. As of March 2024, the issued and circulating FDUSD amounts to $2.5 billion, with corresponding reserve assets also at $2.5 billion. Reserve assets include $1.86 billion in short-term Treasury bills maturing by May 21, $265 million in fixed deposits with a one-month term, and $170 million in other cash assets. Overall, these are ultra-short-term assets, ensuring high liquidity and immediate redemption capability.

4) Summary of Fiat-Collateralized Stablecoins

Reviewing the top three fiat-collateralized stablecoins, USDT, USDC, and FDUSD, reveals three distinct paths to success. Here is a brief summary:

• USDT: 1) Its greatest strength is its first-mover advantage, but its rise is mainly due to support from exchanges and market booms. Starting in the early days of the cryptocurrency era, from the Bitcoin blockchain to the later Ethereum ecosystem, USDT is undoubtedly a pioneer. It also correctly anticipated the market explosion. Although founded in 2014, USDT truly rose to prominence in 2017, coinciding with a bull market. USDT began significant issuance that year, accused of manipulating Bitcoin prices, but this is more a case of correlation than causation. Overlooked factors include China’s ban on virtual currencies and USDT’s simultaneous listing on the top three exchanges that year. 2) It has faced many risk events but responded promptly and effectively to regain market confidence. Tether’s affiliated company, Bitfinex, was once thought to be a single entity. Between 2014-2016, it faced hacker attacks and fines from the U.S. government, including Tether being cut off from international wire transfers by Wells Fargo and Taiwanese banks. There was even a period when it was depegged from the dollar. Tether’s primary response was to quickly disclose its asset reserves, including its excess reserves and undistributed profits, demonstrating its financial health to regain market confidence. Whether or not the data is accurate, it effectively addressed market concerns. Through its first-mover advantage and several successful public relations efforts, USDT has established strong consumer habits, remaining the preferred stablecoin for deposits and withdrawals and covering the most trading pairs on exchanges.
• USDC: 1) Rose during the USDT crisis, gaining customer favor with transparent, regulated, and more liquid asset reserves. When looking back at USDC’s rise, its increase in holding addresses usually corresponds to a decline in USDT holdings, often during USDT risk events. This was particularly beneficial in its early days as the only stablecoin trading pair on the compliant exchange Coinbase, with regulatory backing greatly aiding USDC’s early market expansion, making it a major competitor to USDT. 2) Due to compliance, DeFi protocols favor USDC. Liquidity mining has rapidly increased USDC’s volume, making it more dominant on-chain. After Maker introduced the regulated stablecoin USDC in 2020, it became the preferred choice for major DeFi protocols. Currently, MakerDAO, Compound, and Aave are major supporters of USDC. Beyond the regulatory benefits, USDC’s lower volatility compared to USDT makes it a preferable collateral in DeFi protocols. USDC’s success can be summarized as a victory in compliance. However, it is worth noting that, as a regulated collateral, Circle froze Tornado Cash’s USDC per the U.S. Treasury’s directive in August 2023 (on money laundering charges). This has sparked debate on whether decentralized DeFi protocols should overly rely on centralized stablecoins.
• FDUSD: 1) The support of top exchanges and implicit regulatory compliance has been one of the main reasons for FDUSD’s rise. In 2023, Binance, the number one cryptocurrency exchange, decided to abandon BUSD and instead support FDUSD as the only designated stablecoin for its Launchpad and Launchpool liquidity mining. Thanks to the significant returns from Binance’s mining and new listings, FDUSD’s overall market value rapidly increased, quickly becoming one of the top three fiat-collateralized stablecoins. Binance’s endorsement was the most direct factor for FDUSD’s rise. However, the market already had legally compliant stablecoins like USDC, so Binance’s choice was more influenced by Hong Kong’s regulatory environment and the US stance towards Binance, making FDUSD, which was born in Hong Kong, the best choice. 2) The growth rate and ceiling of FDUSD are determined by its application scenarios and wealth effect. If FDUSD is adopted by an exchange but lacks suitable application scenarios, it would be difficult to rise. After being listed on Binance, FDUSD became one of the only two cryptocurrencies (the other being BNB) used for Launchpool and Launchpad mining. Since its launch, the average annualized return from FDUSD mining has been close to 70%, which is a relatively high return for short-term miners. This alone has quickly increased FDUSD’s usage rate.

Overall, for fiat-collateralized stablecoins, their success relies on several key factors:

• Operating within a regulatory framework helps gain early user trust, as seen with USDC and FDUSD.
• Advantages in reserve audits, security, and transparency. For example, TUSD launched real-time audit features in 2023, including the use of Chainlink to ensure minting security, revitalizing this older stablecoin; similarly, USDC’s rise is attributed to this factor.
• Support from exchanges and broad partnerships determine the baseline of development. The rise of USDT, USDC, and FDUSD has always relied on the support of exchanges. Only with the massive liquidity support from these exchanges can stablecoins achieve a stable start.
• Application scenarios and wealth effects determine the speed and ceiling of development. Typical examples include FDUSD, USDC, and PayPal’s PYUSD (embedded in the PayPal wallet). Their rapid development is driven by strong wealth effects or convenient services in specific segments, thereby increasing user adoption.

2.Crypto-Asset Collateralized Stablecoins (DAI/USDe)

Due to the high volatility of crypto assets, their credit foundation is weaker compared to risk-free assets like USD deposits or government bonds. Therefore, they are generally over-collateralized. However, synthetic dollars created through derivative hedging can achieve close to 100% collateralization. Being crypto assets, they usually have decentralized characteristics.

1) Main Operational Principle of DAI

• Basic Introduction:

DAI is currently the leading decentralized stablecoin, officially issued and managed by MakerDAO in 2017. MakerDAO is a decentralized finance (DeFi) project headquartered in San Francisco, USA. It was founded by Rune Christensen and is backed by prominent investors in the crypto industry, including A16z, Paradigm, and Polychain Capital. Initially operated by the Maker Foundation, it is now managed by its community through a decentralized autonomous organization (DAO) holding MRK tokens.

• Main Operational Mechanism:

DAI is generally pegged 1:1 to the USD. The Maker protocol launched in 2017 allowed users to mint DAI by collateralizing ETH. In 2019, Multi-Collateral DAI (MCD) was introduced, accepting collateral other than ETH. Along with the change in collateral, DAI savings rate (DSR) was introduced to support interest-bearing stablecoins. Additionally, the collateralized debt positions were renamed as Vaults, and single collateral DAI was renamed as SAI.

Its creation process is as follows:

• Step 1: Create a Vault through the Oasis Borrow portal or community-built interfaces like Instadapp, Zerion, or MyEtherWallet, and lock in specific types and amounts of collateral to generate DAI (the Maker protocol also supports RWA assets like real estate mortgages and receivables as collateral).
• Step 2: Initiate and confirm the transaction through a crypto wallet, simultaneously generating DAI (equivalent to a collateralized loan).
• Step 3: To redeem the collateral, users must repay the corresponding amount of DAI (equivalent to repaying the debt) and pay a stability fee (equivalent to risk compensation or a risk parameter to adjust supply and demand and maintain the 1:1 peg between DAI and USD, with stability fees reaching over 15% during bull markets). The Maker protocol will then automatically destroy DAI and return the collateral to the user.

Chart 13: Maker protocol participants (Source: Maker official website)

DAI’s Price Stability Mechanism: Unlike fiat-collateralized stablecoins with risk-free characteristics and high liquidity that can rapidly stabilize price ranges through reserve assets, decentralized stablecoins collateralized by crypto assets need a price stability mechanism due to market volatility and trading. This mainly involves interest rate adjustments and liquidation. Interest rates include the stability fee and DAI Savings Rate (DSR). The stability fee is based on the risk factor of maintaining the dollar peg, similar to loan interest; DSR is the basic return rate for DAI or a deposit interest rate. This stability logic is akin to traditional banking loans. If loan income (stability fee income) is lower than DSR income (DAI deposit interest expenditure), the protocol will incur bad debts. To cover bad debts, MRK (governance token) issuance is required, transferring the burden to MRK holders. This mechanism ensures fairness during stability fee voting.

DAI’s Liquidation Mechanism: Similar to traditional credit, if the value of collateral significantly drops below the debt, forced recovery by the bank occurs. DAI has a similar mechanism, using Dutch auctions (gradually decreasing price, first bid wins). The auction trigger is based on the collateral-to-debt ratio (liquidation ratio). Different users’ vaults have different liquidation ratios. For example, if ETH is the collateral with a 75% collateralization rate and a market price of $3000, a user can mint up to $2250 worth of DAI. If the user mints only $2000 worth of DAI for safety, the collateral coverage rate is 1.5, with a utilization rate of 66.7%. Liquidation risk arises when the utilization rate exceeds the collateralization rate, meaning ETH price drops to $2666.

DAI’s Peg Stability Module: This can be understood as a currency swap agreement in traditional financial terms, simply enabling 1:1 swaps between DAI and stablecoins like USDC. By swapping stablecoins, the protocol converts the reserve pool’s USDC into dollars for short-term treasury investments, increasing its yield and boosting DSR returns to attract users.

DAI’s Profit Analysis: Mainly through stability fee income (loan interest), comparable to USDT’s minting fees. Other sources include liquidation penalties, peg stability module swap fees, and RWA collateral investment income. In 2023, the protocol’s revenue was $96 million.

2) Main Operational Principle of USDe

Basic Introduction: USDe is a decentralized on-chain stablecoin created by Ethena Labs. The early concept was proposed by the famous crypto KOL Arthur Hayes. The project has received investments from BitMEX founder Arthur Hayes and his family fund, as well as from major funds including Deribit, Bybit, OKX, and Gemini. Since its launch on February 19, 2024, its supply has skyrocketed, making it one of the top five stablecoins in terms of supply, second only to FDUSD.

Chart 14: Supply of the top five stablecoin tracks, as of May 2024 (Source: The Block)

Operational Principle of USDe: Application of Neutral Hedging Strategy in Cryptocurrency

Ethena Labs’ USDe is a synthetic dollar protocol. In the context of cryptocurrency, a synthetic dollar protocol means issuing stablecoins pegged to the US dollar through a series of crypto derivatives combinations.

In practice, USDe employs a delta-neutral strategy. Traditionally, Delta = change in option price / change in underlying asset price. Delta-neutral typically refers to an investment portfolio whose value is not affected by small price changes in the asset, generally termed as delta-neutral (delta equals 0).

Ethena’s neutral strategy operates as follows: When a user mints 1 USDe of Ethena stablecoin, ENA simultaneously deposits ETH worth 1 USD on a derivatives exchange and establishes a short perpetual contract on 1 ETHUSD. If ETH decreases by 10 times, the contract earns 9 ETH in profit, making ENA’s total position 10 ETH. Since the price also drops by 10 times, the total value of its holding remains unchanged; the same logic applies to price increases. This ensures the stability of the minted stablecoin. If the user chooses to redeem USDe, ENA will quickly close the short position. Essentially, USDe’s collateral is spot ETH and the corresponding short position. In a bull market, it’s almost 100% fully collateralized, and if you include ENA tokens, the broad collateralization rate exceeds 120%.

Secret to USDe’s Rapid Rise: It has Ponzi-like attributes but is essentially a term arbitrage financial product.

First, for users minting USDe, they can quickly stake it in Ethena to earn staking rewards. Unlike other stablecoins like USDT, where you don’t enjoy dividends, USDe immediately shares minting rewards. This alone attracts large institutions, considering that MakerDAO’s market soared when its return rate reached 8%, not to mention sUSDe (staked USDe certificate) yields exceeding 30% at one point.

Secondly, $ENA is the governance token of the project. While users earn basic returns from staking USDe, they also receive ENA token rewards. Conversely, holding ENA can also increase the rewards for staking USDe.

Fundamentally, USDe constructs a stablecoin architecture entirely based on ETH as the underlying asset. Its core anchor point is maintaining the value stability of collateral through derivative futures contracts. To attract users, it shares the investment portfolio returns with stablecoin minters, allowing them to enjoy both the stablecoin’s price stability and minting tax dividends. Additionally, the platform issues ENA tokens, where staking USDe earns ENA, and vice versa, increasing stablecoin staking rewards. Although it has Ponzi-like attributes, it’s not a simple Ponzi scheme because its core profit model is term arbitrage. As an individual, you can also use this method, but ENA consolidates everyone’s funds for larger collective returns.

USDe’s Profit Model:

The minting of USDe requires users to provide stETH and simultaneously short perpetual contracts. There are two parts to the profit: staking yield from stETH (APY 3%-4%) and funding rate earnings from the short positions. The funding rate mechanism is straightforward; to align the contract price with the spot price, when there are more long positions than short, longs pay shorts the funding fee, and vice versa. During bull markets, the funding rate for longs is typically higher (APY 25%) to attract counterparties. This is the primary profit source for the project. Notably, the project stores stETH not on regular CEXs but on custody platforms like Cobo and CEFFU to prevent misuse or CEX failures.

Core Risks of USDe:

As a stablecoin backed by crypto assets, USDe’s fundamental model is based on arbitrage between the futures and spot markets. The collateral essentially consists of spot ETH and corresponding short positions. During bull markets, it is generally 100% fully collateralized, not to mention the circulating market value of ENA itself, indicating that there is currently no risk of collapse. However, there is an exception if the LST collateral (stETH) decouples from ETH itself, as seen during the 3AC collapse when stETH decoupled by nearly 8%. The biggest risk is the scale limitation; if the short position ratio on a single exchange is too large, there may be no counterparty, leading to reduced funding rate earnings. Given the current market, the safe minting limit is around $10 billion. Another risk is the sustainability of the staking yield, which is self-evident. Additionally, the custody model of ENA theoretically has risks of misconduct or even bankruptcy, triggering a series of leveraged liquidations. The final and biggest risk is the project team’s risk of absconding with funds.

3) Summary of Crypto-Asset Backed Stablecoins

Compared to fiat-backed stablecoins, crypto-asset backed stablecoins do not rely on specific scenarios or centralized exchanges. Whether it’s DAI or USDe, their paths to success are highly consistent: wealth effects and transparent management. Both DAI and USDe were born in bull markets and grew rapidly. Thanks to the bull market, the lending protocols derived from DAI gave retail investors the opportunity to leverage for higher returns. Additionally, unlike fiat-backed stablecoins, crypto-asset backed stablecoins generally offer basic interest earnings, acting as an anchor to attract customers. These interest-bearing assets and the resulting wealth effects are the main reasons why crypto-collateralized stablecoins can stand firm and spiral upwards. In contrast, holding USDT and USDC does not provide interest dividends, and there is also the risk of asset depreciation due to changes in the dollar exchange rate or inflation.

3.Uncollateralized/Algorithmic Stablecoins (FRAX)

The previous peak of algorithmic stablecoins was UST, an algorithmic stablecoin created by LUNA, which eventually collapsed due to its Ponzi-like mechanism. As of now, there hasn’t been a widely successful algorithmic stablecoin in the market. Projects like FRAX are still relatively under the radar. Algorithmic stablecoins come in two models: single-token and multi-token. The former was the main model for early algorithmic stablecoins, such as AMPL and ESD. The latter is represented primarily by FRAX (a hybrid algorithmic stablecoin). The biggest flaw of single-token algorithmic stablecoins is that unless designed as a Ponzi scheme (high returns), they struggle to grow effectively, and the extreme volatility of the crypto market makes it hard for users to trust the algorithm itself. Based on this, FRAX developed a hybrid model of collateralized and algorithmic stablecoins.

FRAX designed a relatively complex hybrid stablecoin model involving collateral and algorithms. The collateral mainly consists of USDC and FXS (the project’s governance token). Its core basis is arbitrage trading.

Main Operating Logic:

When the protocol first launches, minting 1 FRAX requires 1 USDC. As market demand for FRAX increases, the collateral ratio of USDC decreases, for example, to 90%. This means minting 1 FRAX only requires 0.9 USDC and burning 0.1 FXS tokens. Similarly, during redemption, 0.9 USDC and 0.1 FXS are returned. The stability of this model fundamentally relies on arbitrage trading. If FRAX is worth less than $1, arbitrage traders will buy FRAX, redeem USDC and FXS, and sell FXS for profit. This increased demand for FRAX helps restore its exchange rate. Conversely, the same logic applies if FRAX is worth more than $1. In the latest version, the project introduced an Algorithmic Market Operations (AMO) controller. The main improvement is that, while maintaining a 1:1 peg to the dollar, the protocol’s collateral is deposited into other DeFi protocols to earn revenue.

Main Profit Model:

The main profit sources are fees from minting and burning stablecoins, earnings from AMO mechanisms in various DeFi protocols, and FRAX lending. Additionally, staked assets like ETH can be used to run staking nodes and earn rewards. Currently, the total market value exceeds $600 million. Core Bottleneck: Compared to stablecoins like USDC/USDT and DAI, even though FRAX improves security with partial collateralization, its limitations in application scenarios (arbitrage within the ecosystem) currently restrict its upper limit. This is the main bottleneck for algorithmic stablecoins: how to expand their application scenarios in the cryptocurrency ecosystem.

4. Track Forecast and Thoughts on Hong Kong Stablecoins

1.Advantages and Disadvantages of Different Types of Stablecoins

Whether it is fiat-collateralized, crypto-collateralized, or uncollateralized algorithmic stablecoins, each type has its own advantages and disadvantages in terms of decentralization, capital efficiency, and price stability, which are key to their development.

2.Summary of the Stablecoin Track

By reviewing the stablecoin track, it can be seen that whether it is fiat-collateralized, crypto-collateralized, or algorithmic stablecoins, their common feature is the support of application scenarios. Either they have enough convenience and credit endorsement, or the use of stablecoins in the scenario can earn profits for users. The rise of USDC proves the importance of regulatory endorsement, the rise of FDUSD demonstrates the importance of scenario brought by exchange traffic, and the rapid explosion of USDe once again proves that the most motivating force for cryptocurrency projects is always the wealth effect.

Based on the above analysis, if a stablecoin project wants to gain market recognition, the path is relatively clear under the current market structure.

1) For fiat-collateralized stablecoins, two essential conditions for success are the trust foundation of regulatory compliance and the scenario support brought by exchange/payment institution traffic. Both are indispensable.

2) For crypto-collateralized and algorithmic stablecoins, the necessary conditions for success are a basic/high yield to meet the demand for the turnover efficiency of users’ crypto assets, and the continuous expansion of DeFi/payment application scenarios. If these two points are met, a stablecoin project has the initial possibility of success. Additionally, the project party must always seek a balance and trade-off between capital efficiency, value stability, and decentralization.

3.Thoughts on Hong Kong Stablecoins

For Hong Kong, aside from pegging to the US dollar, there are options to peg to the Hong Kong dollar and offshore RMB. Beyond the rigid regulatory issues, from the perspective of stablecoin creation, there is almost no difficulty in practical terms. However, the challenging part lies in the application scenarios after creation (or circulation issues). If they cannot be used for large-scale real-world payments or cross-border remittances, even with collaboration from major exchanges, there are significant obstacles considering the stronger credit and circulation of the US dollar. From a regulatory perspective, Hong Kong’s stablecoin regulatory framework will be introduced sooner or later, especially after the implementation of the 2023 Hong Kong Virtual Asset License, making the regulatory trend relatively clear. If pegged to the Hong Kong dollar as fiat, it can be expanded in the following ways:

1) Introduce the interest-bearing effect of crypto assets into fiat collateral. That is, distribute the returns from collateralized assets to users to gain their early trust.

2) HKD stablecoin payments. Expand it into a payment tool rather than just a transaction medium, including cross-border trade settlement in HKD. Additionally, since the HKD is pegged to the USD, if it is not used as an income-generating financial product/payment tool, its necessity and attractiveness are minimal. Besides the HKD, Hong Kong has over 10 trillion offshore RMB and RMB assets (including offshore RMB bonds), with nearly 1.5 trillion in offshore deposits, mainly concentrated in Hong Kong and Singapore. In fact, offshore RMB stablecoins are not new, such as TCHN launched by Tron, CNHT launched by Tether, and CNHC issued by CNHC Group (the project team was arrested in mainland China in 2023, but not because of the stablecoin project). The main reasons for their lack of growth are the uncertainty of Hong Kong’s regulatory framework and the failure to find a suitable entry point. For offshore RMB, the core keys are:

1) Offshore RMB is not subject to domestic foreign exchange control, but the issue of asset holder identity remains an obstacle. The People’s Bank of China is most concerned about the legal status of the RMB. If the stablecoin is pegged only to offshore RMB, it facilitates RMB internationalization and, more importantly, activates the vast offshore RMB assets. The biggest bottleneck currently is that most offshore RMB holders are from mainland China, which poses significant practical challenges and obstacles.

2) Backed by institutions like Bank of China, Hong Kong. Bank of China, Hong Kong is the clearing bank for offshore RMB. If offshore stablecoins are issued, subsequent clearing and custody tied to Bank of China, Hong Kong can solve the core trust issue.

Figure 15: Onshore and offshore RMB flows under cross-border trade

3) Expanding payment and procurement scenarios under cross-border trade will be the most critical application for offshore RMB. Currently, offshore RMB (CNH) mainly comes from cross-border trade, procurement, and payments, retained in Hong Kong/Singapore and especially in Belt and Road countries. Given the global shortage of offshore USD and the instability of many local currencies, trade with China tends to settle in RMB. Offshore RMB stablecoin/USDC trading pairs will significantly enhance the RMB-to-USD exchange channels for Belt and Road countries. Additionally, payment under trade can cooperate with cross-border payment institutions to explore payment scenarios in e-commerce, games, and goods transactions.

4) Attempt to create a unique income model for offshore RMB. Besides traditional minting and redemption fees, the key lies in how to meet users’ return expectations. One can also try mixing RMB and USD collateral to achieve exchange rate neutrality, higher stability, and dual-asset short-term investment returns, serving as the basic yield for stablecoins. Furthermore, consider securitizing high-grade domestic credit entity physical assets (RWA) abroad for on-chain issuance as another anchor for stablecoin returns (referencing DAI), including offshore RMB foreign exchange derivatives markets. Additionally, the annual issuance of offshore bonds worth up to 300 billion RMB can also be tokenized.

In conclusion, whether it is HKD stablecoins or offshore RMB, the biggest challenge is not in issuance but in designing application scenarios. From a future development trend, offshore RMB has broader application space and scenarios compared to HKD. If strongly pegged to RMB and regulated under the Hong Kong framework, it does not directly conflict with the legal status of RMB. On the contrary, it expands the convenience of offshore RMB payments (no need to open a bank account, pay anytime and anywhere), enriches the global issuance of domestic RMB assets, and significantly expands the global liquidity of domestic RMB assets. This has certain policy space and acceptance in the current period of strict foreign exchange control and economic downturn.

Disclaimer：

1. This article is reprinted from [AiYing Compliance].
   Forward the Original Title ‘【万字长文研报】稳定币赛道：模式、运行原理、趋势及香港稳定币的思考’. All copyrights belong to the original author [孙伟&Aiying艾盈]. If there are objections to this reprint, please contact the Gate Learn team, and they will handle it promptly.
2. Liability Disclaimer: The views and opinions expressed in this article are solely those of the author and do not constitute any investment advice.
3. Translations of the article into other languages are done by the Gate Learn team. Unless mentioned, copying, distributing, or plagiarizing the translated articles is prohibited.