Analysis-Tether’s $100 billion stokes stablecoin stability concerns

Mar 6, 2024

By Elizabeth Howcroft and Hannah Lang

LONDON/NEW YORK (Reuters) -As Tether toasts $100 billion in circulation this week, the rapid rise of the world’s biggest stablecoin has highlighted concerns about potential risks to wider financial markets.

The digital dollar-pegged token is designed to keep a constant value, something Tether says that it does by holding dollar-denominated reserves for every token it creates.

Crypto traders say the tokens are essential for moving funds in crypto quickly, without using the regulated banking system.

“Tether plays a pivotal role in our day-to-day operations, primarily serving as a mechanism for moving funds swiftly between trading venues,” said Michael Hall, founding partner of London-based crypto asset manager Nickel Digital.

Regulators, however, have long-standing concerns that growing stablecoin reserves expose the broader financial system to bigger risks, because they act as a bridge between the crypto universe and mainstream financial markets.

James Butterfill, head of research at asset manager CoinShares, said that Tether’s dominance increases systemic risk within crypto.

“If Tether fails for some unlikely reason, it would lead to a dramatic decline in trading volumes,” he said.

U.S. regulators have warned banks that stablecoin reserves could be subject to rapid outflows, for example if holders rushed to exchange such tokens back into traditional currency.

A spokesperson for Tether said its “products provide real-world value by enabling the billions of unbanked people across the globe to access the global financial system when they couldn’t before.”

The spokesperson also said Tether “proactively works with law enforcement and regulatory agencies across the globe to halt the illicit use of stablecoin technology, having frozen several hundreds of millions in USDT connected to illicit activities.”

CEO Paolo Ardoino said in a statement in January that Tether is committed to “transparency, stability, and responsible financial management”.

Crypto markets have mostly recovered from the collapses that saw prices plunge in 2022. Bitcoin jumped more than 20% last week and on Tuesday hit an all-time high, driven by excitement around inflows into U.S. spot bitcoin ETFs.

Tether is also growing fast. Around $29 billion worth was created in the last year, it said in a statement on Tuesday.

WIDER IMPACT

The crypto lobby has previously said that asset-backed stablecoins do not pose a systemic risk.

But with Tether now holding nearly $100 billion worth of reserves in traditional banking institutions, Rajeev Bamra, Head of DeFi and Digital Assets Strategy at Moody’s Investors Service said “anything going wrong with Tether is going to impact those banking institutions at the end of the day”.

“I think the concentration risk in Tether is huge,” Bamra added, referring to Tether’s dominance within the crypto world.

S&P Global Ratings ranked Tether as a 4 in a stablecoin stability assessment last year, the second lowest on a scale of 1 to 5, citing a lack of information on custodians, counterparties or bank account providers of its reserves.

Tether agreed to quarterly reserve reports under a 2021 settlement with the New York Attorney General’s office.

At the end of 2023, Tether’s latest report says, its reserves held $63 billion of U.S. Treasuries, $3.5 billion of precious metals, $2.8 billion of bitcoin, $3.8 billion of “other investments” and $4.8 billion of “secured loans”.

Paul Brody, global blockchain leader at Ernst & Young, said that a reserve report does not constitute a full financial statement audit.

Although various jurisdictions are developing stablecoin legislation, Tether is not currently subject to specific supervision by an authoritative body or rules about how or where it can invest its reserves, S&P Global Ratings analyst Rebecca Mun said in an interview late last month.

Tether Holdings Ltd, which is registered in Hong Kong and owned by a company registered in the British Virgin Islands, says on its website it is “fully transparent”, but it does not give details about where its reserves are held.

Hall said Nickel uses Tether “cautiously”, balancing the convenience with the downside risk of it losing its dollar peg.

Crypto traders who rely on Tether say they draw confidence from it having previously maintained its peg and processed billions of dollars worth of redemptions during periods of crypto market turbulence, such as in 2022.

“While no asset is without risk, especially in the volatile crypto market, Tether’s track record positions it as a comparatively lower-risk option within the spectrum of digital assets,” Hall said.

(Reporting by Elizabeth Howcroft and Hannah Lang; Editing by Alexander Smith and Stephen Coates)

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