Bitcoin and tether are NOT good sources of collateral for crypto investing. Investors that pledged bitcoin for collateral have probably seen their loans called. Tether's composition, which is not 100% USD backed, includes precious metals, bitcoin, and secured loans. It is a stretch to call it a stable coin; thus, it is too risky for collateral use.
Let's review what the characteristics of good collateral are: Liquidity — if things go bad, and the lender wants their money back fast, underlying collateral can be sold quickly. A low susceptibility to rising interest rates. In this regard, low-duration investments, like bonds with high coupons or short maturities, are often less sensitive to surprise interest rate moves. Some stability in price. Price volatility weakens the status of collateral. A decline in collateral value leads to a trade being liquidated or requiring more collateral. The asset is held in a bona-fide custody provider, bank or broker, an entity under regulation, full and transparent valuation and proof of ownership.
Of these characteristics, bitcoin and Tether only have liquidity. In times of stress, you can sell, but there will be price volatility. Tether and bitcoin do not pay interest, so they are susceptible to rising interest rates; interest rates go up, fewer people buy a non-yielding asset.
Better sources of collateral are gold or sovereign bonds, and both are tokenized, making them good choices for crypto platforms.
Regarding tokenized sovereign bonds for collateral purposes, emerging market short-term government bonds seem like a good choice. AA rated bonds from countries like the UAE, Qatar, Taiwan, South Korea, and the Czech Republic have delivered better total returns this year than equally rated developed world credits, in dollars as well as in local currencies.
Emerging market bonds have performed well because many countries have made progress in cutting debt, taming inflation and improving current account balances. Although some may still have high inflation levels and debt that is still an issue, the direction of change is what is important.
In short, many emerging markets are improving their economic fundamentals, while developed markets like the US, Europe, and Japan are not.
The other reason for considering emerging market bonds as collateral is dollar risk. There are many reasons that the US dollar may go down sharply; excessive debt, drastic interest rate cuts, and political uncertainty to name a few. If President Trump gets his wish of a big rate cut, the US dollar will weaken, destroying its collateral utility.
So, for collateral purposes, look for tokenized bonds that have improving economic fundamentals, a decent interest rate, and limited currency risk. Etherfuse offers some good emerging market opportunities that fit this bill.
This blog is for educational and informational purposes only, covering general market trends, industry developments, and asset features. Nothing herein is investment advice, a solicitation, or a recommendation to buy or sell any assets. Etherfuse and its guests may hold stakes in some or all of the assets discussed.
