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How to build a stablecoin strategy to protect and grow your portfolio

9 min read

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  • Stablecoins are cryptocurrencies pegged to fiat currencies, predominantly the US dollar.

  • Stablecoins allow investors to escape the price volatility of the crypto markets.

  • As an integral part of the DeFi ecosystem, stablecoins are used to build stable and yield-generating portfolios.

  • Stablecoin strategies work particularly well in times of uncertainty and bear markets as they rely on earning interest rather than speculating on asset performance.

  • Stablecoins are not volatile, but like any other investment, they are not without risk - it is prudent to keep this in mind and never invest what one cannot afford to lose.

When building a crypto investment strategy, there are a number of key decisions an investor must make. This includes determining one's risk appetite. While cryptocurrency is an inherently volatile asset class, stablecoins can help investors beat inflation, protect their capital and preserve purchasing power, without taking on the volatility of the digital asset market.

In the current economic climate, real interest rates (interest rates minus inflation) offered by traditional financial institutions are negative in most parts of the developed world. This means that keeping one's savings in a bank account erodes wealth over time. This creates a need for other investment options to protect capital from the ravages of inflation.

One way to grow one's wealth over time is by investing in a portfolio of risk assets, such as equities or cryptocurrencies. For example, the S&P 500 - an index of the 500 largest companies in the US market - has delivered an average return of 6.44% per year since 2000, comfortably beating inflation.

Since the beginning of 2022, however, the index has fallen by 23.8% (to 7 October 2022), amid global pressures that include high inflation, global conflict and rising interest rates.

It is not the S&P 500 alone that has experienced such a strong sell-off. Most other investment assets have suffered due to the current macroeconomic backdrop, including the volatile cryptocurrency market.

With macroeconomic headwinds on the horizon and inflation continuing to rise across the globe, investors are looking for alternatives to protect and grow their capital.

An investment strategy that involves stablecoins could help savers earn a steady passive income on their assets, without exposing themselves to directional risks associated with the volatile stock and cryptocurrency markets.

In this blog post, we are going to explore the basics of stablecoins and effective long-term strategies to utilize stablecoins to protect and grow one's portfolio.

Stablecoins are the cornerstone of the DeFi ecosystem. Stablecoins are cryptocurrencies whose prices are pegged to real-world, “fiat” currencies such as the US dollar.

As such, they allow holders to remain in the crypto ecosystem, without being exposed to volatile coins like Bitcoin and Ether.

There are several types of stablecoins that differ in their mechanism for maintaining the peg to the underlying asset. You can find out more about this in our detailed blog on how stablecoin pegs work.

It is important to do your own research to understand these mechanisms and the projects/companies that issue these stablecoins. This is because, despite their lack of volatility when their pegs work correctly, stablecoins remain exposed to risks (as we have recently witnessed with the collapse of the UST stablecoin in May 2022).

The main distinction between different types of stablecoins is the assets that are used as collateral to create the peg, as well as whether the stablecoin is considered centralized or decentralized.

USD coin (USDC), Tether USD (USDT) and True USD (TUSD) are referred to as centralized and fully collateralized stablecoins.

To maintain their pegs, issuers of those tokens hold an equivalent value of liquid, high credit-grade assets such as fiat currencies (US dollars), US treasuries or commodities as collateral.

USDC and USDT are the largest stablecoins by market capitalization, making up more than 75% of the total market cap of all stablecoins, as many prefer a “physically backed” solution with strong ties to the global reserve currency.

However, some prefer a more decentralized version, such as MakerDAO’s DAI.

MakerDAO uses a different mechanism to issue the decentralized stablecoin DAI and retain its peg to the US dollar. After the collapse of UST, DAI is now the largest decentralized stablecoin in existence.

MakerDAO allows users to mint (create) DAI in a permissionless manner using other digital assets as collateral, such as Bitcoin (BTC) or Ether (ETH). As these are prone to significant price movements, DAI needs to be over-collateralized when minted.

Because DAI embodies the Web3 ethos of a truly decentralized stablecoin, it remains a popular alternative for those concerned about the regulatory risks to which centralized stablecoins are exposed. Since the regulatory landscape around cryptocurrency remains uncertain, there are concerns that pressure from regulators could have negative effects on the future of centralized stablecoins.

For those intrigued to learn more, we have compiled everything there is to know about stablecoins in our Stablecoins 101 blog.

Stablecoins are an integral part of every digital asset strategy. This is because they can serve a multitude of functions to build, grow and protect one's capital.

Stablecoins are an excellent tool to reduce a portfolio's exposure to volatility.

For an equally weighted (50/50) Bitcoin/stablecoin basket, for example, this diversification would protect you from price swings to the downside.

For example, if the value of your Bitcoin were to fall by 25%, the overall value of your portfolios (in the base currency, such as US dollars) would only fall by 12.5% thanks to your 50% stablecoin holdings.

However, this mechanism also decreases the potential upside when risk markets are heading in the opposite direction, i.e. when the price of Bitc±oin is rising.

When markets begin to rise, investors can decrease their stablecoin allocation and increase risk assets to take advantage of the upside.

As such, stablecoins provide a safety net during bear markets and allow investors to adjust their strategy based on their risk tolerance and market conditions.

Another advantage of holding stablecoins in one's portfolio is the possibility of taking advantage of short-term investment opportunities during volatile markets.

Even in bear markets, cryptocurrencies can see wild swings in prices in the space of a few days, or even a few hours. Experienced crypto traders use stablecoins to take short-term positions in assets they expect to increase in price, thus generating profit even when the wider market is trending downwards.

Balancing risk-taking against potential gains (or losses) is always a difficult decision.

Interest-bearing accounts allow savers to earn interest on their digital assets and thus reduce the risk of potential losses, while increasing the value of their savings at the same time.

Such interest-bearing accounts can be used to earn high interest rates on stablecoins and a variety of other crypto assets.

To give an example, let's look at the same 50/50 BTC/stablecoin portfolio as above.

If the value of the BTC in the portfolio were to fall by 25% over the course of a year, the overall portfolio would decline by 12.5%.

However, if the same crypto assets were allocated to an interest-bearing account offered by a digital wealth platform like Yield App, they could generate passive income to protect the portfolio on the downside.

In our example, if the 50% portion of the total portfolio invested in stablecoins generated 10% in annual interest, the overall value of the portfolio would only decline by 7.5% over the year (rather than 12.5%, or 25% in a pure Bitcoin portfolio).

If the portfolio also generated an additional 5% in annual interest on the BTC portion, the overall value of the portfolio would only decrease by 5.6% instead of 12.5%.

Naturally, investors who allocate to riskier crypto assets such as Bitcoin expect positive returns over the long run. In that case, earning interest on your digital assets would further increase the value of your overall holdings over time.

If Bitcoin were to increase in value by 25% over the course of a year while your holdings were earning staking rewards of 5% on BTC and annual stablecoin interest rates of 10%, the total value of the portfolio would increase by 20.6%, compared to only 12.5% without the additional staking rewards.

Contrary to the belief that risky investments are necessary to make life-changing returns, a strategy solely utilizing high stablecoin interest rates and the power of compounding interest can deliver strong long-term returns in a more predictable manner.

Over a long time period, compounding returns can help patient investors grow a portfolio to many times the size of the initial investment.

For example, a small allocation of $100 per month over the course of 30 years into a stablecoin portfolio that pays 10% in annual interest would result in a total balance of $228,006, with just $36,000 of this made up by the total deposits, while $192,006 is made up by interest earned over time.

In order to earn interest on one's stablecoin holdings, it is necessary to pick a crypto platform that offers such portfolios. The key elements to consider before picking a platform are ease of use, security, and competitive interest rates.

Yield App’s portfolios, for example, pay sustainable and market-leading rates, compouding daily, on a variety of stablecoins, BTC and ETH.

As an integral part of the Yield App platform, the YLD membership token allows you to earn higher interest rates on your portfolio.

To earn high yields with Yield App, users simply need to stake or lock the platform's native YLD tokens.

The total amount of YLD staked and/or locked defines the user's membership tier and therefore the rewards they can expect to earn on their holdings, including stablecoins, BTC, and ETH.

The highest interest rates on the platform are available via Yield App's Earn+ products. With these portfolios, Diamond Tier members can earn 10% p.a. on their stablecoins.

yield app november rates

The Earn+ products have a 30-day rolling redemption notice period, meaning that if you choose to redeem your assets from the portfolio they will appear in your wallet 30 days after redemption.

Yield App also offers a Flexible portfolio option with instant liquidity for ETH and stablecoins. However, these portfolios pay lower annual interest rates.

Stablecoins are an integral part of every long-term, risk-adjusted strategy.

While strategies that rely solely on rising price movements could cause investors sleepless nights during sharp market swings or bear markets, stablecoin strategies continue to pay interest in both bull and bear markets while providing a strong buffer against volatility.

A well-balanced all-around strategy can help to protect your wealth and generate income while maximizing growth – a recipe for long-term financial success.

DISCLAIMER: The content of this article does not constitute financial advice and is for informational purposes only. The price of digital assets can go down as well as up, and you may lose all of your capital. Investors should consult a professional advisor before making any investment decisions.


Unlock the full potential of cryptocurrency and grow your digital wealth

Unlock the full potential of cryptocurrency and grow your digital wealth