Regarding… Vol 3 no 23 – Stablecoins

Dear Fellow Investors and Friends,

Welcome to another edition of my newsletter, where I share my efforts to understand markets and the world around me.

I do appreciate you taking the time to read this. Feedback is welcome; it’s great to start conversations.

Today is Thursday, July 3rd, the 185th day of the year. There are 181 days until the end of the year. We are just over halfway through, if you can believe it!

Franz Kafka was born on this day in 1883. He is considered one of the most significant literary figures of the 20th century. His best-known works, such as The Metamorphosis, The Trial, and The Castle, explore themes of alienation, existential anxiety, and the absurdity of modern life. I remember reading his books when I was at university. At the time, they struck me as indicative of the absurd events in South Africa.

Today, with politicians like Trump, the increasing influence of AI, and the rise of cryptocurrencies, we seem to be living in absurd times again. This is a reason to revisit Kafka’s books, which I plan on doing. But it is also a good time to consider a new financial innovation: stablecoins.

“Any organisation that could guarantee, transport, and settle transactions in the form of arranged electronic particles twenty-four hours a day, seven days a week, around the globe, would have a market – every exchange of value in the world – that beggared the imagination.”
– Dee Hock, founder of Visa

“Room-temperature superconductors for financial services”
– Stripe founder Patrick Collison

Hello, Stablecoins!

Stablecoins are digital tokens designed to maintain a 1:1 value with an established currency, typically the U.S. dollar. The two largest are Tether (USDT; $149 billion) and USD Coin (USDC; $62 billion). In total, around $240 billion of them are in circulation. Not massive in currency terms, but growing fast.

Typically, a stablecoin issuer would issue a token worth $1 and back it with a dollar’s worth of high-quality liquid assets like T-Bills – an electronic money market fund, so to speak. But a money market fund that can be used for the immediate settlement of transactions.

Like most technologies, Stablecoins have followed a development trajectory, each faster and more efficient than the last. The letter evolved into the telegram, which developed into the fax and, most recently, the email.

Similarly, barter was the original method of trading. Later, objects like shells were used to facilitate transactions. Paper money was only introduced a thousand years ago, making exchanges even easier. About 60 years ago, credit cards were developed, further greasing the wheels of trade. Recently, mobile payment apps have gained popularity. Now, you just tap and go.

Today, stablecoins are coming to the fore.

Blockchains and their associated cryptocurrencies have been a technology looking for a killer app for a long time.

First, it was assumed that crypto was only used for nefarious purposes – drug dealers, hostage takers, and hackers would prefer it over cash. However, once they realised that all transactions were permanently stored on the ledger (i.e. blockchain), they reverted to their preferred settlement method, cash. Cash and crime are Lindy.

Another use case emerged in countries with poor macroeconomic management, leading to high inflation, weak currencies, and exchange controls. Crypto was an easy way to externalise assets.

Today, Bitcoin is increasingly recognised as an electronic store of value with tokens in circulation worth $2.1 trillion. That’s nearly 10 times the combined value of the two biggest stablecoins, USDT and USDC. However, when it comes to transactions, the situation is reversed. Less than 3% of those bitcoins are exchanged in a 24-hour period, compared to nearly 40% of the two stablecoins.

Stablecoins have four important properties relative to the current monetary status quo.

• They make money movement cheaper;
• They make money movement faster;
• They are decentralised and open access (and thus globally available from day one); and
• They are programmable.

Everything interesting follows from these characteristics.

Here’s the thing: Walmart has a margin of 3%, and pays away 1% in merchant fees. Using stablecoins to transact could add 30% to its profitability. Given the above-mentioned functional attributes, stablecoins could disintermediate many more profit pools.

Historically, the regulatory environment was a significant barrier to the acceptance of crypto in markets. Until this year, regulators’ caution outweighed the commercial interests of potential stablecoin issuers. What has helped to unblock the GENIUS Act is that the U.S. government believes it has identified a fiscal benefit. Scott Bessant, the Treasury Secretary, recently predicted that $3.7 trillion worth of U.S. Treasuries could be absorbed by stablecoin demand. The more stablecoins are used, the greater the demand for high-quality assets to back them.

The highest quality asset? U.S. Treasury bills.

Voila! A cheap source of funding for the deficits the U.S. is running – and planning to run. When an elegant solution to a governmental financial problem presents itself, regulation follows, as night follows day.

Here you have it: “The U.S. Senate Banking Committee’s approval of the GENIUS Act in March marks a significant step toward formal oversight. The Act would create a dedicated framework for stablecoin issuance, allowing banks and non-banks to issue dollar-backed tokens under a federal charter. Beyond defining what constitutes a “payment stablecoin,” it sets out reserve requirements, risk management standards, and a resolution process to protect users.”

Given this background, it’s no surprise that stablecoins are increasingly becoming part of the financial fabric:

• Mastercard is collaborating with cryptocurrency platforms to allow consumers to spend stablecoins at more than 150 million Mastercard acceptance locations worldwide.
• On its earnings call, Visa similarly flagged its seven-day-a-week stablecoin settlement system, highlighting that it recently surpassed $200 million in cumulative stablecoin settlement volume. It has also developed a platform to help banks issue stablecoins, with Spanish lender BBVA as its pilot partner.
• PayPal introduced the ability to earn rewards for holding its sponsored stablecoin, PYUSD. “This will increase the adoption and use of digital currencies for everyday commerce,” said its CEO, Alex Chriss.
• Stripe announced that it is building a new stablecoin product powered by Bridge, a platform it acquired in February for $1.1 billion.
• Bank of America CEO Brian Moynihan speculated that soon, customers will have access to a Bank of America stablecoin alongside their U.S. dollar deposit and be able to transfer funds between them.
• Earlier this year, Circle acquired Hashnote, a company that operates a tokenised money market fund (TMMF). TMMFs offer an alternative to stablecoins, allowing on-chain investors to access a yield-generating product with low-risk government assets and repo collateral.
• BlackRock launched a tokenised fund, BUIDL, in March last year that has grown to $2.9 billion in assets under management. Its continuous liquidity – through night times and weekends – enhances its appeal among treasury managers and as a collateral source for trading.

This is what the market for payments could look like, soon:

Note: It’s clear that the person who put this chart together is a marketing person, not a financial analyst. Visa and Mastercard don’t shrink; they continue to grow. It’s just that the use of stablecoins is growing a lot faster.

However, the stablecoin ecosystem is not without its issues:

• Stablecoin owners do not own the stablecoin issuers – they’re depositors, and stablecoin issuers are like banks. You must be regulated like a bank if you have on-demand deposit liabilities, as stablecoin issuers clearly do. At the moment, that is not happening.
• One feature of the Act is a restriction on stablecoins paying interest. Similar regulations in Europe, Hong Kong, and Singapore also limit stablecoins from paying interest. This could create a fragmented, dysfunctional market as everyone tries to issue a money-printing machine.
• Today’s key question is whether stablecoins have 100% backing of high-quality, liquid assets. The biggest stablecoin, Tether, is issued by an offshore, unaudited entity.
• Stablecoins are effectively “bearer securities.” Like physical banknotes, they are subject to know-your-customer and anti-money laundering rules only when their users seek to convert them into traditional bank deposits. In the meantime, they can be used to make payments anonymously, just like physical cash.

These problems are not insurmountable and will be overcome. The system provides more than enough incentives to do so.

Stablecoins and their yield-bearing counterparts represent more than just another payment innovation – they are the infrastructure for a new financial system where dollars move as freely as data. As with all innovations, they will disrupt the current ecosystem.

Heads up – RECM is working on an interesting financial product in the crypto space.