Why USDH?

Note: This article is not financial advice. Hubble Protocol does not endorse any of the tokens or platforms mentioned in this article.

Not all stablecoins are built alike.

Some stablecoins are better suited for certain purposes than others.

For example, USDC and USDT are a great means for exiting token positions while keeping funds on-chain, and they can be easily redeemed for fiat.

On the other hand, the longer a user holds a fiat-backed stablecoin, the longer they expose their holdings to the possibility of centralized censorship.

Fiat-backed stablecoin holders also miss out on potentially higher-than-average yields from participating in decentralized finance (DeFi).

In stark contrast, though, UST's main use cases were censorship resistance and earning higher-than-averaged yields.

However, UST recently proved itself drastically illiquid and difficult to exit back into fiat, and although Terra's stablecoin was censorship resistant, market forces eventually crushed its algorithmic design.

Then, there's USDH, Hubble's crypto-backed stablecoin. USDH is a censorship-resistant stablecoin that helps users access liquidity and pursue yield in DeFi, and it has been designed for sustainability and utility.  

NB: This article is not financial advice, but the information here should help users do their due diligence when taking positions in stablecoins.  

There are several stablecoins available in the Solana ecosystem. Here are a few reasons why users on Solana might borrow USDH to participate in DeFi.

DeFi is Booming on Solana

USDH is one of the few censorship-resistant stablecoins native to Solana, a network providing cost-efficient transactions, high throughput, and a user-friendly experience. By developing on Solana, USDH is building a niche in one of the most performant blockchains in DeFi.

Traders and other DeFi users find transacting on Solana cost-efficient due to its low fees, which has huge network effects. Even if users rarely participate in DeFi, they won't deposit tokens in a Solana project and return in a month to find that transactions now cost 100x to execute due to congestion.

USDH can be used as a tool for participating in the DeFi ecosystem on Solana.

Maintain Upside Potential

As just mentioned, USDH can be a tool for accessing yield in Solana's DeFi ecosystem. Additionally, USDH provide a tool for maintaining exposure to crypto assets while accessing capital to pursue yield in DeFi.

Suppose a user needs liquidity on hand to participate in an attractive DeFi opportunity. Users can deposit assets they wish to hold on Hubble and borrow USDH instead of swapping those assets for stablecoins on the market.

By borrowing USDH, users can maintain exposure to their tokens while having stablecoins they can use to earn yield on a DeFi protocol.

Hubble Embraces Sustainable DeFi

USDH has been designed to withstand the pressure cooker of the crypto market. Many stablecoins have come and gone, but the stablecoins that have been minted against a collateral debt position (CDP) are historically doing better than other kinds of stablecoins.

Each USDH token is backed by at least $1.20 worth of crypto collateral, and every user who mints USDH can retrieve their collateral by repaying their USDH debt, no matter what the market price of USDH may be.

Hubble has also implemented several mechanisms to tighten USDH's peg. For example, the PSM allows users to participate in risk-free arbitrage whenever USDH floats off its peg, and this utility helps keep USDH closer to 1.000.  

In the following sections, this article will list stablecoins available in the wider DeFi ecosystem. Each report includes some advantages and disadvantages for each stablecoin when compared with USDH.

FIAT-BACKED STABLECOINS

Fiat-backed stablecoins are issued directly by their parent corporations and are backed by dollars and dollar-denominated assets held off-chain. Consequently, centralized issuance introduces a risk that assets can be frozen.

One advantage fiat-backed stablecoins have over crypto-backed and algorithmic stablecoins is that they be redeemed for cash. However, the quality of the reserves backing each stablecoin has been called into question, especially for USDT.

Fiat-backed stables act as the bridge between USD and DeFi. Accordingly, their massive liquidity and peg stability can be harnessed as a tool for censorship-resistant stablecoins to maintain parity with USD.

For example, much of DAI's peg stability comes from arbitraging fiat-backed stablecoins with DAI through a Peg Stability Module (PSM) and pairing with USDC and USDT in Curve's 3Pool.

USDC

USD Coin (USDC) is a stablecoin issued by CENTRE — a joint venture between Coinbase and Circle. It is the most liquid stablecoin in DeFi and the most used on Ethereum.

How is the peg maintained?

When USDC drops below peg, it can be bought cheaply from the market and redeemed for $1 in fiat. Conversely, when USDC floats above peg, it presents an arbitrage opportunity to acquire more value in other tokens.

Since USDC can be redeemed for $1 in fiat, this reinforces the belief that 1 USDC is worth one dollar.

Advantages compared to USDH

• Extremely tight peg
• Can redeem for 1 USD
• No smart contract risk

Disadvantages compared to USDH

• Not censorship resistant, risks being frozen
• Collateral not transparent, audits reported monthly
• Less access to DeFi yields

USDT

USDT is issued by Tether, a subsidiary of Bitfinex. It's the number one fiat-collateralized stablecoin by market cap, mainly because of its use on centralized exchanges (CEXs). Nearly every CEX uses USDT for pairing tokens such as BTC/USDT, SOL/USDT, etc.

How is the peg maintained?

When USDT drops below peg, it can be bought cheaply from the market and redeemed for $1 in fiat. Conversely, when USDT floats above peg, it presents an arbitrage opportunity to acquire more value in other tokens.

Since USDC can be redeemed for $1 in fiat, this encourages the belief in the price of 1 USDC being equal to $1, no matter what. In the past, Tether, the company that issues USDT, has burned half of the USDT supply to restore its peg.

Advantages compared to USDH

• Pairs available on CEXs
• Can redeem for 1 USD
• No smart contract risk

Disadvantages compared to USDH

• Not censorship resistant, risks being frozen
• Collateral not transparent, no audit reported
• Very little access to DeFi yields

CRYPTO-BACKED STABLECOINS

These stablecoins are collateralized in a censorship-resistant and crypto-native way. The backing occurs on-chain and employs smart contracts instead of a central issuer.

When minting crypto-backed stablecoins, users lock their collateral into a smart contract until their debt is repaid. Collateral, circulation, and ownership of these tokens can be verified on-chain.

Crypto-collateralized stablecoins are over-collateralized to protect against market fluctuations. This extra collateral provides a buffer against insolvency during black swan events.

USDH is an overcollateralized crypto-backed stablecoin.

DAI

DAI was the first collateral debt position (CDP) stablecoin launched on Ethereum by MakerDAO. It is regarded as the most stable and widely used censorship-resistant stablecoin in DeFi.

How is the peg maintained?

• Stability Fee to encourage/discourage people to mint/burn DAI
• Debt Ceiling to prevent supply shock. You cannot mint infinite DAI.
• Peg Stability Module (PSM): Smart contract that enables anyone to swap DAI against stablecoins at 1:1 with zero fees
• Keepers: Market participants that arbitrage the DAI price
• Curve's 3Pool

Advantages compared to USDH:

• Multi-chain
• Liquidity

Disadvantages compared to USDH:

• Higher borrowing costs (transaction and borrowing fees)
• Limited collateral types
• Less capital-efficient LTV
• Native yield set to zero

MIM

MIM is the decentralized stablecoin of Abracadabra. To mint Magic Internet Money (MIM), users can deposit crypto assets, including interest-bearing tokens (ibTKNs).

MIM can be minted on various chains such as Ethereum, BSC, Fantom, Polygon, Avax, and Arbitrum.

How is the peg maintained?

• Debt Ceiling: Each Abracadabra vault for minting MIM has a debt ceiling to prevent supply shock. You cannot mint infinite MIM.
• Arbitrage: In most cases, a lot of the market-to-market arbitrage is done by automated bots that constantly monitor pools for opportunities to capitalize on these price differences.
• Special treasury: 5% of the interest fees are redirected to a multisig treasury that can be used when market conditions require intervention.
• Large position on Curve paired with 3Pool due to bribes

Advantages compared to USDH

• Multi-chain
• Currently accepts LP tokens as collateral
• Users can participate in Curve War bribes

Disadvantages compared to USDH

• Higher borrowing costs (transaction and borrowing fees)
• Centralized peg treasury
• USDT in collateral reserves

LUSD

LUSD is a censorship-resistant stablecoin issued by Liquity on Ethereum. Liquity accepts deposits of ETH to create a collateral debt position (CDP) with zero-interest borrowing for LUSD.

The Liquity team wrote the smart contracts for LUSD and figured out how to create a stablecoin with zero governance for increased censorship resistance. As a result, Liquity was launched without a frontend, but it can be accessed through third parties who take a fee for frontend services.

How is the peg maintained?

• Redemption Mechanism: When LUSD falls under peg, users can redeem 1 LUSD for $1 of collateral. Reducing LUSD on the market lifts the peg back to parity with USD.

Advantages compared to USDH

• Zero-interest borrowing
• 90.9% LTV
• Zero governance (more decentralized)

Disadvantages compared to USDH

• Unstable peg
• Zero governance (cannot pivot/adapt)
• Losing collateral to redemptions
• Liquidates users below 90.9% LTV during Recovery Mode

PAI

PAI, or Parrot USD, is the stablecoin of the Solana project Party Parrot. LP tokens and single asset tokens can be deposited to mint PAI.

How is the peg maintained?

• Debt Ceiling: Each Party Parrot vault for minting PAI has a debt ceiling to limit supply shock.
• Interest rates that incentivize borrowing or repayment

Advantages compared to USDH

• Currently accepts LP tokens as collateral

Disadvantages compared to USDH

• USDT in collateral reserves
• Higher fees for yield-bearing collateral like mSOL

ALGORITHMIC STABLECOINS

Algorithmic stablecoins do not require 100% collateral backing. Instead, they rely on a complex relationship of market participants to maintain their peg–and thus, their parity with USD.

Most algo projects have a native non-stable asset that works in conjunction with their stablecoin. This non-stable asset can be used for seignorage/arbitrage, collateral, or as a backstop.

A distinction has recently been made between the durability of exogenous collateral (assets from outside the stablecoin project, BTC into USDH) versus the fragility of endogenous collateral (assets from within the project, LUNA into UST). Several algorithmic stablecoins have irretrievably lost their peg due to the failure of their non-stable asset.

Algorithmic stablecoins should be considered highly experimental, and they are historically prone to failure.

UXD

UXD is an algorithmic stablecoin backed by delta-neutral positions on Mango Markets. This limits the stablecoin's growth to the size of the Mango futures market, since a counterparty is necessary to provide the liquidity to hold this position.

When a user deposits $100 of SOL for UXD, the protocol enters this deposit into a corresponding short perpetual future position on Mango Markets. The position will maintain its $100 value whether the deposited asset increases or decreases in price.

If the protocol does not rebalance its delta-neutral position regularly, or if there is a shortage of liquidity on Mango, UXD becomes increasingly backed by a USDC PnL position. Additionally, a lack of liquidity on Mango can make it impossible for users to redeem UXD.

The protocol maintains an insurance fund to pay for negative funding rates. When funding rates are positive, they will be distributed to UXP holders.

How is the peg maintained?

• One UXD can be redeemed for $1 of collateral through the protocol. As UXD is reduced on the market, the peg rises back to parity with USD.

Advantages compared to USDH

• Mint 1 UXD with just $1 of tokens

Disadvantages compared to USDH

• Eliminates exposure to collateral on the market
• Backed by a futures position instead of collateral
• Additional smart contract risk
• Highly centralized insurance fund
• Depends on Mango Markets' security and liquidity

FRAX

Frax is a stablecoin backed by both asset collateralization and mathematical cryptographic algorithms.

FRAX is minted when collateral (USDC for the moment) and FXS (Frax's native token) are deposited into the Frax protocol contract. The amount of collateral needed to mint 1 FRAX is determined by the collateralization ratio and depends on the FRAX peg.

When FRAX is minted, FXS is burned, and this increasingly makes FRAX under-collateralized. This means that by minting more FRAX, the circulating quantity of FXS is reduced. Additionally, when the protocol lowers the collateralization ratio, an increased number of FXS are burnt for a given amount of FRAX, which creates buy pressure for FXS.

How is the peg maintained?

• Can redeem for $1 of USDC and FXS when below $0.9933. As FRAX is reduced on the market, the price is lifted back to parity with USD.
• Strong position on Curve, maintained through bribes

Advantages compared to USDH

• Does not require more than $1 to mint 1 FRAX
• Users can participate in Curve Wars for bribes.

Disadvantages compared to USDH

• Partially backed by USDC, but still algorithmic
• Exposed to endogenous collateral (FXS) death spiral
• Stable peg depends on Curve War bribes

UST

UST was the USD stablecoin of the Terra blockchain. It was minted algorithmically with Terra's native token, LUNA.

UST and LUNA entered a death spiral in May 2022. Around $60 billion in value dwindled to zero over several days as users rushed to exit their positions in both tokens.

Terra has rebooted its blockchain to Version 2.0, but it has launched without a stablecoin.

How was the peg maintained?

• When UST rose above peg, LUNA could be burned to mint more UST, increasing UST supply and reducing its price. Conversely, when UST dipped below peg, UST could be burned for $1 of LUNA.
• The Luna Foundation Guard (LFG) decided to buy BTC as pseudo-collateral for UST in case of a de-pegging event.
• Planned to incentivize new 4Pool to draw liquidity from 3Pool

Former Advantages compared to USDH

• Guaranteed ~19% yield from Anchor
• Multi-chain

Disadvantages compared to USDH

• Dead token
• Had non-organic demand
• Vast majority was held in just one protocol
• Possibility of "death spiral" / bank run

Choosing the Right Stablecoin for DeFi Needs

Choosing the right stablecoin for one's DeFi needs requires a lot of research and a strategy for using stablecoins instead of BTC, altcoins, and memecoins to participate in DeFi.

Note that stablecoins are an extremely new technology, and many projects issuing stablecoins have failed in the past. Participating in DeFi presents many risks, and stablecoins are certainly one of them.

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