Hemispheres Investment Management provided this article for educational purposes only and is not making an investment recommendation. Please consult with your financial advisor before making investment decisions.
Introduction
A stablecoin is a form of cryptocurrency designed to solve a fundamental problem in the crypto space: the inherent price volatility of major cryptocurrencies like Bitcoin and Ethereum. While this volatility offers speculative opportunities, it hinders cryptocurrencies from functioning as reliable mediums of exchange or stable stores of value for everyday transactions. Many coins maintain “stable” value through collateralization by a reserve asset such as U.S. Treasury bills, the US dollar or the Euro, Gold or other digital currencies[1].For example, there are stablecoins that are pegged 1:1 to the US dollar and for every coin issued, there is an equivalent dollar in reserve. Crypto-Backed stablecoins are generally over-collateralized to protect against downside price movement in the cryptocurrency collateral.
There are also algorithmic stablecoins which are not backed by assets. A smart contract involves an embedded code that runs on a blockchain network and provides a stabilization mechanism that reduces the supply of the coin to prevent price decline. However, if the stabilization mechanism in the algorithm is flawed, holders run the risk of price volatility.[2]
Primary Holders of Stablecoins
The primary holders of stablecoins are a diverse group, reflecting the various use cases and benefits stablecoins offer. It’s not a single monolithic group, but rather a combination of:
Cryptocurrency Traders (Retail and Institutional)
Cryptocurrency traders are arguably the largest group.
- Avoiding Volatility: Traders frequently convert volatile cryptocurrencies (like Bitcoin or Ethereum) into stablecoins during market downturns or periods of uncertainty. This allows them to “park” their funds in a stable asset without fully cashing out into traditional currencies, enabling quick re-entry into other crypto assets when market conditions improve.
- Facilitating Trading: Stablecoins act as a common trading pair on cryptocurrency exchanges. They make it easy to move between different cryptocurrencies without having to constantly convert to a currency, saving on transaction fees and time.
- DeFi Participation: Stablecoins are the lifeblood of Decentralized Finance (DeFi) protocols. Users lock up stablecoins in lending platforms, provide liquidity to decentralized exchanges, earning returns on their stablecoin holdings.
Individuals in High-Inflation or Economically Unstable Countries
- In nations experiencing significant currency devaluation or limited access to U.S. dollars, stablecoins pegged to the USD (like USDT or USDC) become a crucial tool for wealth preservation. People use them as a stable store of value to protect their savings from local currency inflation.
- They also use stablecoins for cross-border remittances and payments, as they offer a faster, cheaper, and more accessible alternative to traditional banking channels. Countries like Argentina, Nigeria, and Turkey show high stablecoin usage relative to other countries in their regions due to these factors.
Financial Institutions and Businesses (Increasingly)
- Cross-Border Payments and Settlement: Traditional banks, fintech companies, and payment gateways are increasingly exploring and using stablecoins for more efficient business-to-business (B2B) payments and international settlements. Stablecoins can reduce costs, delays, and friction in these processes, offering competitive advantages.
- Liquidity Management: Institutions can use stablecoins to optimize their liquidity, providing 24/7 access to funds and reducing capital lock-up compared to traditional systems.
- Merchant Settlements: Some businesses and merchants are starting to accept stablecoins for payments, streamlining their settlement processes.
- Proprietary Stablecoins: Major financial players like JPMorgan (JPM Coin) and PayPal (PYUSD) have launched their own stablecoins or are exploring doing so, primarily for internal efficiency, interbank settlement, and expanding payment options for their customers.
- Treasury Management: Large stablecoin issuers, like Tether and Circle, have themselves become significant holders of U.S. Treasury securities, effectively turning stablecoins into a significant driver of demand for U.S. debt.
Issuers Themselves
While issuers don’t “hold” stablecoins in the same way an investor does, the entities that issue stablecoins (e.g., Tether, Circle, Paxos) are central to the ecosystem. They manage the reserves that back the stablecoins in circulation.
In summary, while retail crypto users and traders initially drove stablecoin adoption, the utility of stablecoins for cross-border payments, wealth preservation in volatile economies, and increasingly, institutional adoption for efficiency and new financial services, has diversified the primary holder base significantly.
US Government Rationale for Authorizing Stablecoins
The U.S. Congress and regulatory bodies are actively debating and formulating comprehensive legislation for stablecoins. Their motivations are multi-faceted, aiming to balance innovation with financial stability and consumer protection.
Addressing the Systemic Risks
Run Risk
Policymakers primarily worry about the potential for “run risk” on stablecoins – a rapid, widespread attempt by holders to redeem their tokens for cash could destabilize financial markets if a large stablecoin issuer lacks sufficient reserves. Regulating stablecoins aims to prevent such scenarios and protect the broader financial system.
Consumer Protection
A paramount concern for Congress is safeguarding consumers and investors. This involves ensuring stablecoins are truly 1:1 backed, enforcing transparent reporting of reserves, and establishing clear, efficient redemption processes. Critically, these legislative efforts aim to create safeguards in lieu of FDIC insurance. Since stablecoin holders do not receive FDIC protection, Congress seeks to implement robust rules around reserve management, audit requirements, and issuer solvency to provide an alternative form of protection and confidence. Lawmakers intend to clarify that stablecoins are not bank deposits and therefore are not FDIC insured.
Financial Innovation & U.S. Competitiveness
Congress recognizes stablecoins’ potential to enhance payment systems, reduce transaction costs, and foster broader financial innovation. By providing regulatory clarity, the U.S. aims to encourage responsible innovation and maintain its leadership position in the global digital asset space, preventing businesses from moving offshore due to regulatory ambiguity. This also includes supporting new forms of digital payments that can benefit consumers and businesses.
National Security
Beyond financial stability, Congress considers the national security implications of stablecoins. Stablecoins face scrutiny regarding their potential use in money laundering, terrorist financing and other illicit activities. Regulators are working on policies and regulations to prevent this issue.
Balancing Federal vs. State Oversight
A key debate centers on who can issue stablecoins (federally chartered banks, state-licensed trusts, or non-bank entities) and the appropriate level of federal versus state oversight. Lawmakers aim to establish a uniform national framework that provides clarity and consistency, potentially preempting state-specific regulations for federally approved stablecoin issuers.
The Benefits of Stablecoin adoption
U.S Dollar Reserve Currency Status
A strong positive for the US Government is that stablecoins backed by the U.S. dollar will reinforce the global dominance of the U.S. dollar.
Managing the National Debt
The growth of stablecoins significantly impacts the U.S. Treasury market. A large portion of U.S. dollar-pegged stablecoin reserves consist of highly liquid, low-risk assets, primarily U.S. Treasury bills. As the stablecoin market cap expands—from around $230-260 billion in early 2025 with projections reaching $2 trillion by 2028—the demand for these backing assets also dramatically increases. Stablecoin issuers now hold over $120 billion in U.S. Treasury notes, making them substantial buyers on par with some foreign nations.
This increased demand for Treasuries, particularly short-term T-bills, can help the U.S. government when the national deficit is high. Higher demand typically drives up bond prices and lowers their yields (interest rates). For the U.S. government, which consistently issues new debt, lower borrowing costs translate directly into reduced interest payments on its vast national debt. This provides a new, significant source of demand for government debt, potentially offsetting declining demand from some traditional foreign buyers and strategically supporting U.S. fiscal stability.
This increased demand for Treasuries, particularly short-term T-bills, can help the U.S. government when the national deficit is high. Higher demand typically drives up bond prices and lowers their yields (interest rates). For the U.S. government, which consistently issues new debt, lower borrowing costs translate directly into reduced interest payments on its national debt. This provides a new, significant source of demand for government debt, potentially offsetting declining demand from some traditional foreign buyers, and strategically supporting U.S. fiscal stability.
Key Legislation
- The Guiding and Establishing National Innovation for U.S. Stablecoins Act (GENIUS Act), passed by the Senate, defines payment stablecoins, outlines permitted issuers, mandates stringent reserve requirements (e.g., 100% reserves in highly liquid assets), imposes regular reporting, establishes consumer protections, and prohibits interest payments to stablecoin holders to prevent them from being seen as interest-bearing deposits. It explicitly clarifies that stablecoins are not FDIC insured and prioritizes stablecoin investors’ claims in the event of an issuer’s insolvency. Senators advocating for the bill explicitly state it will “drive demand for U.S. Treasuries” and “cement U.S. dollar dominance.”
- The Stablecoin Transparency and Accountability for a Better Ledger Economy Act (STABLE Act), introduced in the House, shares similar goals around reserve requirements and consumer protection but includes provisions like restrictions on “Big Tech” firms issuing stablecoins. Both bills aim to create a clear, comprehensive regulatory framework that instills confidence, encourages adoption, and manages risks within the U.S. financial system, without extending FDIC coverage to stablecoin holders directly.
Conclusion: The Future of Stablecoins in the Financial Landscape
Stablecoins have carved out an important role in the cryptocurrency financial ecosystem, offering a bridge between traditional finance and the decentralized digital world. They facilitate efficient transactions, enable innovative applications, and contribute to the U.S. dollar’s global standing by increasing demand for U.S. Treasuries.
Business Efficiency
Hemispheres envisions value in stablecoins for institutional entities in facilitating their business activities more efficiently and lower cost. Active cryptocurrency traders also benefit from their use as a hedging mechanism. For an individual planning to hold the stablecoins as a long-term investment, there is little value as currently constituted unless the investor engages in De-Fi activities. Because of the peg to an underlying reserve asset, there is no capital appreciation. Depositing the coins into a bank would provide no interest and is not FDIC insured.
Individual Investors
Historically, stablecoins did not generate interest automatically[3]. Investors earned interest by depositing the coins into a decentralized lending protocol or a centralized crypto lending platform. The funds were then loaned funds to borrowers[4] and the stablecoin owners received a share of the interest payment. Another method stablecoin investors earned a return involved sharing profits/losses from trading by joining a liquidity pool on a decentralized exchange (yield farming)[5]. Both of these methods continue today and involve substantial risk. Extreme caution should be used when engaging in any of these activities. The reference articles provided in footnotes 4 and 5 demonstrate the many ways an investor can lose principal.
Recently, a new category of stablecoin was designed that pays interest directly within the token, simplifying matters for investors. However they tend to be more complex with unique contractual risks. Regulatory scrutiny is high and the U.S. legislation may restrict these instruments in the future.
Hemispheres Investment Management (HIM)
HIM is a wealth manager with a global investment management focus (domestic and international investments in the same portfolio). Our team of seasoned professionals each have over 35-years of experience in research, strategy development and management of investment portfolios, including deep proficiency in U.S., international and emerging markets. Hemispheres can assist you in diversifying your portfolio globally. Global Equities is Hemispheres’ flagship investment product.
Please contact Hemispheres Investment Management for a free consultation. We provide guidance to assist you in optimizing your investment strategies and helping you achieve your investment goals. Book a meeting.
[1] https://www.moderntreasury.com/learn/what-is-a-stablecoin
[2] https://www.britannica.com/money/how-smart-contracts-work
[3] https://en.wikipedia.org/wiki/Stablecoin#:~:text=Stablecoins%20are%20typically%20non%2Dinterest,interest%20returns%20to%20the%20holder.
[4] https://www.galaxy.com/insights/research/the-state-of-crypto-lending
[5] https://www.kraken.com/learn/crypto-liquidity-pool
