Interest-Bearing Stablecoins Thrive Amid Rising Interest Rates; Here’s Why

Return Of Interest-Bearing Stablecoins

Interest rates are rising even though the US Federal Reserve (Fed) recently paused further hikes. Hence, US government bonds attract investors more than high-risk assets like Bitcoin (BTC) and Dogecoin (DOGE).

Stablecoin issuers in the decentralized finance (DeFi) ecosystem are introducing a strategic innovation to harness the benefits of the prevailing high-interest environment and ensure a stable financial system for traders. Accordingly, there is more use case for stablecoins beyond financial settlements.

There is now a reawakening has begun of interest-bearing stablecoins. However, these stablecoins’ protocol differs from Terra’s Anchor protocol. DeFi pioneers have adopted new technology to create cutting-edge solutions that push traditional finance’s boundaries even as the world struggles with rapidly changing market conditions.

The resurgence of interest-bearing stablecoins demonstrates the industry’s consistent commitment to innovation. Stablecoins such as Maker’s DAI and Frax Finance’s FRAX are increasingly sought-after assets following rising interest rates.

Furthermore, each stablecoin brings its unique approach to maintaining price stability and generating interest, thus contributing to the DeFi sector’s vibrancy and competitiveness among other financial markets.

In addition, the increase of stablecoin variants will drive growth within the decentralized finance ecosystem as users seek alternative financial solutions. Interestingly, the stablecoin’s interest-bearing iterations, sDAI and sFRAX, share a similar yield generation strategy.

Both generate returns by investing in US-government-issued treasury bills and other real-world assets. This approach will strengthen the stability of these coins and offer investors an enticing opportunity to earn returns on their dormant USD.

Another interesting thing to note is that Spark Protocol, the project behind Maker DAI’s expansion, announced that the token had reached 1 billion in circulating supply.

Are Crypto Yield-Based Returns Risky?

When investing in these interest-yield stablecoins, Pablo Veyrat, the co-founder of Angle, stressed the importance of understanding the source of yields, cautioning against being enticed by exceptionally high returns. He added that there is a need for traders to understand the underlying mechanisms of an asset before investing in it.

For instance, agEUR, another interest-yielding stablecoin, derives its yield from a tokenized representation of a European government-issued bond.

This practical approach distinguishes agEUR from other notable stablecoins, making it a secure and reliable value proposition for investors. In addition, the transparency and reliance on established financial instruments lend credence to the token’s stability and sustainability within the broader DeFi landscape.

Yield Alternatives And Stablecoins

Meanwhile, Veyrat shared his doubts over stablecoins, which generate yield through staked Ether, citing concerns about such mechanisms’ limited ability to maintain the coin’s value. He noted that this method usually results in a cycle of converting staked ETH yield into another USD-denominated asset.

The Angle co-founder opined that he prefers stablecoin alternatives that are not dependent on interest rates, as they may gain traction, especially when the Fed lowers rates. Veyrat believes these alternative models may explore novel avenues for yield generation as macroeconomic conditions improve.

Tom Wan, an analyst at 21.co, added that when that happens, interest-bearing stablecoins like sDAI, which mostly derive their yield from US Treasuries, will record a corresponding decrease in output. On the other hand, stablecoins such as eUSD and USDe, which derive their yield from stETH or other ETH LSTs (Liquid Staking Tokens), are poised to maintain user interest.