Sort stablecoins by what backs them and name the risks of each type.
Some crypto tokens are built to stay at a steady price, and people who hold them often come to treat them like money in a bank account. That steady price is a promise made by whoever issues the token. Whether you could swap your coins back for dollars depends on what stands behind that promise, and coins differ a great deal on this.
A stablecoin is a crypto token designed to hold a steady price against something else, usually the US dollar. That target price is called the peg. People use stablecoins to park money between trades without leaving the crypto system, and to move dollar value across borders on a blockchain.
Farah keeps part of her crypto in a stablecoin between trades, and to her it feels like cash. The balance sits at about one US dollar per coin every day, while everything else in her account goes up and down. Her friend Darren asks who would pay her, and with what, if she wanted dollars back for every coin. She isn't sure. Each of the checks below is a way of answering Darren's question.
What stands behind the promise splits stablecoins into two types, reserve-backed and algorithmic.
A reserve-backed stablecoin is issued by a company that says it holds cash and short-term assets at least equal to all the coins in issue, such as government treasury bills and bank deposits. You give the company a dollar and it creates a coin. When a coin is handed back, the company pays out a dollar and destroys the coin. Handing a coin back in this way is called redemption.
Redemption keeps the price near a dollar. If the coin trades at 98 cents on an exchange, a trader who is able to redeem can buy it there cheaply and redeem it with the issuer for a full dollar. Enough of that buying pushes the exchange price back up.
Often only approved customers can redeem directly with the issuer, sometimes with minimum amounts. Everyone else, ordinary holders included, sells on an exchange and relies on the redeeming traders to keep the price in line. Farah is not an approved customer, so if she wanted out she would sell on an exchange and depend on those traders.
A reserve-backed peg is only as good as its reserves and its issuer. It can go wrong if the reserves are smaller than claimed, if they are held in assets that can't be sold quickly at full value, or if they sit with a bank or custodian that runs into trouble. The last of these happened in March 2023. One large dollar stablecoin briefly traded well below a dollar after its issuer said part of its reserves were held at a US bank that had just failed. The price recovered once it became clear those deposits would be paid, though holders went through a frightening weekend first.
Reserve reports vary a lot in quality, and four checks help you decide how far to trust one.
Start with who prepared it. A report from an independent accounting firm gives you more reason for confidence than a post on the issuer's own blog.
Next, look at how often reports come out and the date of the latest one. Monthly reporting is better than quarterly, and a report from a year ago says little about the reserves today.
Then work out whether the report is an audit or an attestation. An attestation is an accountant confirming that, on a particular date, the reserves the issuer showed them matched what the issuer said, so it is a snapshot of one day. An audit is a much deeper examination of a company's accounts and controls over a period, on which the accountant forms an opinion. Many stablecoin issuers publish attestations, which are the weaker check. If an issuer calls its report an audit, read the accountant's own wording to see which kind it is.
Finally, read what the reserves consist of. Cash and short-dated government bills are about as safe as reserves get. Commercial paper, loans and other crypto tokens carry more risk, since they can lose value or be hard to sell at the moment holders want out. If you can't find any reserve report for a coin, write that down, because the missing report is part of your answer.
An algorithmic stablecoin tries to hold its peg without a pile of reserves. It relies on code and incentives, usually tied to a second, linked token.
TerraUSD was built this way. Anyone could swap one TerraUSD for one dollar's worth of a sister token called Luna, created new for each swap, and could also swap in the other direction. If TerraUSD fell below a dollar, traders were expected to buy it cheaply and swap it for a full dollar of Luna, pulling the price back up.
All of this depended on Luna keeping its value. When many holders wanted out at once, the swaps created more and more Luna, Luna's price fell, each swap delivered less real value, and confidence drained away faster. A stablecoin with only a mechanism behind it can fail completely and quickly, as Terra and Luna did in May 2022. Lesson 5.1, "Terra and Luna: a peg held up by an algorithm", walks through what happened.
MAS has set out a framework for single-currency stablecoins issued in Singapore, and it has consulted on changes to the law to put that framework into effect. Those amendments will set out how stablecoin issuers may qualify to be MAS-regulated, and the safeguards they must meet to support value stability and user protection. Most stablecoins quoted on exchanges are issued elsewhere and are not covered.
The details of the framework, and when the changes to the law take effect, can shift over time. To check a coin, go to the MAS website instead of relying on a platform's marketing or a news summary, and see whether the framework is in force yet and whether the coin's issuer is MAS-regulated. Expect a coin issued outside Singapore to be outside the framework in most cases.
When you pick your two stablecoins for the activity, write down where the issuer is based, whether the MAS framework covers it, and what the latest reserve report says the coins are backed by. If you cannot find a reserve report at all, record that too, because it is an answer in itself.
Pick two stablecoins. For each, write down what it says backs it, who reports on its reserves, and how often.
Junxiong-WFG Organisation is an authorised representative of AIA Financial Advisers Private Limited (Reg. No. 201715016G).