Stablecoins - Effective Bridge Between Fiat And Crypto, Or A Bridge Too Far?

Summary Stablecoins have grown rapidly since Covid, as a blockchain-based money, with liquidity and cross-border transferability, and as a stable store of ￰0￱ other cryptocurrencies, like Bitcoin, they are backed by reserve assets, though the 1:1 peg to underlying reserve assets has some flexibility, like a currency ￰1￱ FTSE Russell data, we find Stablecoins show a very stable return profile and low volatility versus other cryptocurrencies and financial assets, since ￰2￱ backed by fiat currency cash and near-cash display lower volatility than those collateralised by cryptocurrencies, and low correlation to Bitcoin and ￰3￱ Robin Marshall, M. A., M.

Phil, Director, Global Investment Research | Alex Nae, M. Sc, Quantitative Research Analyst, Global Investment Research Executive summary Stablecoins (SCs) have grown rapidly since Covid, as a blockchain-based money equivalent, with liquidity and cross-border transferability, and as a stable store of ￰4￱ total market capitalisation is now close to $250bn. Unlike other cryptocurrencies, like Bitcoin ( BTC-USD ) and Ethereum ( ETH-USD ), they are issued by private companies, and backed by reserve ￰5￱ distinguishes them from central bank digital currencies, which are issued by central banks, and legal tender, unlike SCs. However, the 1:1 peg to underlying reserve assets has some flexibility, like a currency board ￰6￱ collapse of Terra (2022) highlighted the importance of the arbitrage mechanism required to ensure SC ￰7￱ FTSE Russell Stablecoin index data, we find SCs do indeed show a very stable return profile and low volatility relative to other cryptocurrencies and traditional financial assets, since ￰8￱ backed by fiat currency cash and near-cash display lower volatility than those collateralized by cryptocurrencies, and also show low correlation to Bitcoin and Ethereum, while being less volatile than algorithmic ￰9￱ of the US GENIUS Act gives a more complete regulatory framework for SCs in US dollars, and there are some signs of convergence in regulatory approaches with the Eurozone’s framework.

A clearer, and more complete global regulatory framework reduces financial instability risks emanating from SCs, which do not share the risks of fractional reserve banking systems or permit maturity ￰10￱ dollar SCs comprise 99% of global market capitalization, and may serve to reinforce the dollar’s transactional dominance in cross-border payments, trade invoicing and foreign exchange ￰11￱ A key development in digital assets in recent years is the arrival of, and rapid growth in, stablecoins. A stablecoin (SC) is a type of cryptocurrency that aims to maintain a stable value versus a specified asset, or pool of ￰12￱ attraction of a SC lies in being a blockchain-based money equivalent, with liquidity and cross-border transferability, and a stable store of ￰13￱ underlying reserve asset is often a fiat currency, like the US dollar, but the underlying asset can be another cryptocurrency, like Bitcoin or ￰14￱ is a key difference between SCs and other cryptocurrencies which are not collateralized.

Indeed, one of the key drivers of their development has been a reaction to the high volatility in cryptos like Bitcoin and Ethereum, even if Bitcoin volatility has fallen in ￰15￱ other key difference with cryptocurrencies is that SCs are issued by private companies, with the backing of reserve assets, rather than issued by a computer code on a network, as is Bitcoin.2 Also bear in mind, SCs differ from central bank digital currencies (CBDC). CBDC are effectively digital banknotes, legal tender and issued by central banks, whereas SCs are issued by private companies and not legal ￰16￱ key questions about Stablecoins In this paper, we look at the recent growth in, and types of, SCs and assess their performance returns and correlations with traditional asset classes, using FTSE Russell digital and multi-asset index ￰17￱ seek to answer key questions about SCs, specifically, why have SCs grown so quickly in recent years?

Are SCs stable stores of value, and particularly versus their collateral? Is their performance correlated to other cryptocurrencies? Will SCs boost the role of the dollar as a dominant global reserve currency, reduce US debt service costs and leave the euro marooned? Finally, is it hype to hazard3, namely could widespread adoption of SCs pose risks to financial systems or stability, or might they actually reduce the risks inherent in fractional reserve banking systems?

Why have Stablecoins grown so quickly in recent years? Rapid growth in SCs reflects concern about the stability of fiat currencies and banking systems, particularly in developing countries, slow and costly cross border payment systems and as a bridge between fiat currencies and ￰18￱ regulatory changes in the US, including the Guiding and Establishing National Innovation for US Stablecoins Act, or “Genius Act”, and the introduction of an over-arching market structure framework for the regulation of cryptocurrencies, are other important ￰19￱ 1 illustrates the high growth rate in the market capitalization of SCs in recent ￰20￱ 1: Market capitalization of major Stablecoins).

The collapse of Terra, with its algorithmic collateralization to the cryptocurrency Luna, was a factor in ￰21￱ we note other SC pegs to underlying reserve assets held, even if there were some strains. Furthermore, there appears to be a relationship between stablecoin market capitalization and the broader US money ￰22￱ 2 illustrates the average change in stablecoin market capitalization across different monetary ￰23￱ periods of contraction or low growth in the money supply, stablecoins expanded only marginally, around 1% on average, with occasional ￰24￱ contrast, during phases of monetary expansion, stablecoins recorded growth between 15% and 26%.

This suggests that increases in dollars in circulation are often accompanied by greater conversion of cash into ￰25￱ pattern is consistent with earlier FTSE Russell research, which found that Bitcoin and Ethereum tend to rise as risk appetite increases, demonstrating that when liquidity expands, demand for both stablecoins and risk assets ￰26￱ dynamic can be partly attributed to stablecoins’ role as the primary medium of exchange between US dollars and crypto ￰27￱ 2: Stablecoin market capitalization across monetary regimes), crypto-backed SCs, and commodity-backed SCs, with gold or silver backing the ￰28￱ yield-bearing stablecoins are typically not available to retail investors and fall outside the scope of the US GENIUS Act, which regulates payment ￰29￱ distinction has been at the center of recent policy debates in Washington, particularly around the classification and risk treatment of yield-bearing ￰30￱ SCs are the most complex version, with demand and supply adjusting automatically to maintain stability, via smart contracts, and often backed by an underlying crypto ￰31￱ was the largest of these algorithmic SCs, and collateralized by the cryptocurrency asset, ￰32￱ demand for Terra SCs fell in 2022, the supply of Luna was increased to preserve the 1:1 peg with Terra, but this drove the value of Luna lower, causing holders to exit Terra as the value of the underlying reserve asset ￰33￱ caused a further increase in the supply of Luna, and so ￰34￱ death spirals make algorithmic SCs riskier than those backed by fiat currencies, since supply of the reserve asset is endogenous, or determined by demand for the ￰35￱ 1: Major Stablecoins Stablecoin Ticker Type / Backing Market Capitalization* Pros Key Risks / Issues Tether USDT USD peg (cash + short dated Treasuries etc.) (CoinMarketCap) ~$160-170 billion (DeFi Llama) Liquid with blockchain and exchange support, and ￰36￱ market ￰37￱ opacity, regulatory scrutiny, reserve and counterparty ￰38￱ Coin USDC USD peg, operated by ￰39￱ reserves or equivalent and US Treasuries… ~$60-70 billion (DeFi Llama) Strong regulatory posture, transparency, stable and ￰40￱ operational or counterparty exposure through reserve custodians; subject to evolving US digital asset ￰41￱ DAI Crypto- collateralized.

Over- collateralized with Ethereum etc... (Bankrate) ~$4-6 billion (Bankrate) Decentralized and transparent; don’t rely on one issuer; good for DeFi ￰42￱ risks from smart ￰43￱ prices may drive under- ￰44￱ USDe USDe USD peg; relatively newer stablecoin. (DeFi Llama) ~$10-15 billion (DeFi Llama) Rapid growth; and competitor to USDC/USDT; new ￰45￱ ￰46￱ transparency and audit records; regulatory and operational ￰47￱ Liberty Financial USD USD1 USD peg, fiat- backed (issuer claims) (Bankrate) ~$2-3 billion (Bankrate) Niche stablecoin; broad payment uses; benefit from branding / specific communities. Smaller, retail adoption, liquidity concentration; reserve ￰48￱ Digital USD FDUSD USD-pegged, fiat- backed; newer issuer (Bankrate) ~$1-2 billion (Bankrate) Alternative when regulation ￰49￱ yield but hinges on reserve strategy.

Smaller; less proven; potentially expensive, counterparty / reserve ￰50￱ performance returns and correlations – are Stablecoins stable? To assess the stability of SCs and correlations with other cryptocurrencies and multi-asset classes, we looked at the volatility, performance and correlation of returns of SCs with selected major US asset classes for the period 2020 to 2025, using FTSE Russell multi-asset index ￰51￱ links to our research earlier this year on digital asset characteristics and correlations of ￰52￱ chose 4 major SCs for this analysis, and included both SCs backed by US dollar cash and near-cash (T-bills) and those backed by ￰53￱ 3 shows the variation in volatility between SCs backed by US dollar cash and near-cash (Tether and USDC) and those backed by cryptocurrencies, like DAI, which is not backed by US dollars in a bank account, but by collateral from the issuer’s Decentralized Autonomous Organization (DAO’s) platform, which sits on the Ethereum ￰54￱ makes DAI vulnerable to price swings in Ethereum, with its high volatility, as the underlying collateral.

Indeed, DAI has similar volatility to 7 to 10 year Treasuries and US ￰55￱ contrast, Tether and USD coin show extremely low volatility, near zero in the same period, with the main reserve assets being dollar cash and short ￰56￱ 3: Volatility of Stablecoins and major US asset classes 2021 to 2025), where authorized participants intervene to correct discrepancies between an ETF’s valuation and underlying net asset value6, in the case of SCs there are no authorised ￰57￱ arbitrage mechanism relies on full commitment from the issuer on the supply side, and/or active investor arbitrage from the demand ￰58￱ mechanism is similar to that of a currency board, like the Hong Kong dollar peg to the US dollar in place since 1983, which operates with a band around a central ￰59￱ ensures that investors will intervene to keep the HK dollar within the ￰60￱ in the arbitrage design process is even more important for SCs not backed by reserve currencies, which are exposed to bigger price swings in underlying collateral, and concerns about reserve ￰61￱ from Terra’s collapse, the other major market stress event for SCs originated in the traditional financial system, due to USDC’s exposure to Silicon Valley Bank’s collapse in March ￰62￱ SC failures have driven stronger regulation with both the US GENIUS Act, and the Markets in Crypto Assets Regulation, or MICA framework, in ￰63￱ returns tell a story of relative stability Turning to performance returns and correlation with other asset classes, price returns are close to zero in most SCs in the period 2021 to 2025, as Chart 2 shows, but given there is no interest paid on SCs by issuers, due to US regulation, this is predictable.

However, there are intermediaries who hold SCs for retail investors, and then pay “rewards” on these holdings, i. e., Coinbase, offers 4.1% to USDC ￰64￱ has been argued this may raise financial stability issues7 if bank deposit holders were to switch large sums from bank deposits into seemingly stable SCs in the pursuit of higher return (see section below on financial stability). Chart 2 also shows that Tether, the largest SC by market capitalization, has delivered positive returns, however, reflecting the scale of its reserve holdings in US Treasury Bills (T-bills). Importantly, the performance returns observed in SCs are less a product of ongoing price appreciation, and more the outcome of temporary peg deviations during stress ￰65￱ normal conditions, returns hover near zero, consistent with their ￰66￱ in periods of market turmoil, such as sharp drawdowns in crypto assets or liquidity squeezes in Defi, small breaks in the peg can translate into measurable price ￰67￱ 4: Annualized returns of Stablecoins and major US asset classes 2021 to 2025))) and Ethereum (Ether) at around 0.4, which may be explained by Tether featuring in about 50% of BTC and Ether trades, as a means of payment for these cryptocurrencies.

Furthermore, Tether shows higher correlations with other financial assets, notably US Treasuries and equities, than other ￰68￱ may be a collateral effect in this in short Treasuries, but it could be driven by Tether’s dominant market share in SCs, and greater linkages with the traditional financial system via DeFi, and US Treasury bill holdings. ... other Stablecoins show much lower correlation to Bitcoin and Ethereum Other SCs show much lower correlation of returns with BTC and ￰69￱ is likely due to the relative stability and much lower volatility of returns in SCs, as Chart 1 above shows, and the “safe haven” effect during crypto ￰70￱ correlation of DAI with Ether is more complex, since DAI is backed by Ethereum as ￰71￱ market runs in Ether may induce holders to close DAI-backed loans and switch into Ether, and vice versa during sell-offers in Ether, giving a negative correlation ￰72￱ complexity is Ether’s role as collateral for DAI, since a sharp drop in the value of Ether could reduce demand for DAI, offsetting the negative ￰73￱ 2: Correlations of selected Stablecoin returns with major US asset classes Correlation table Tether Stablecoin USD Stablecoin DAI Stablecoin USDD Stablecoin FTSE USA 0.24 -0.17 -0.15 0.02 FTSE All World 0.22 -0.18 -0.11 -0.06 US investment grade credit 0.17 -0.16 -0.01 -0.09 1-3 year Treasuries 0.08 -0.07 0.16 -0.01 US high yield 0.22 -0.14 -0.08 -0.08 7-10 year Tips 0.23 -0.04 0.01 0.01 7-10 year Treasuries 0.19 -0.12 0.09 0.01 Gold -0.05 -0.04 -0.07 -0.23 US Dollar index 0.02 0.13 -0.19 -0.01 Bitcoin 0.41 -0.06 0.03 0.18 Ethereum 0.43 0.07 -0.18 0.15 Tether Stablecoin 1 0.19 0.06 0.14 USD Stablecoin 0.19 1 0.03 -0.03 DAI Stablecoin 0.06 0.03 1 0.02 USDD Stablecoin 0.14 -0.03 0.02 1), investors would naturally prefer to redeem (SCs) in the jurisdiction with the strongest safeguards, which is likely to be the EU, where MICAR (Markets in Crypto Assets Regulation) also prohibits redemption fees…..

But the reserves may not be sufficient to meet such concentrated demand.” European focus on financial stability and risks to monetary sovereignty contrasts with the lighter touch US approach, which allows smaller SCs, with less than $10 billion in outstanding issuance, to be regulated at state level. ... but the GENIUS Act shows some convergence? However, the recent US GENIUS Act suggests some regulatory convergence, and as Table 3 shows, permitted reserve assets for SCs under the US GENIUS Act can only consist of US currency, demand deposits, short-term Treasury securities with 93 days or less to maturity, overnight repurchase agreements backed by Treasuries, and specific money market ￰74￱ may boost demand for US T-bills and very short-dated Treasuries and we note that Tether now owns $127bn in T-bills, as of May 2025 (US Treasury data), which is another example of the link between SCs and fiat ￰75￱ 3: Permitted reserve assets for Stablecoins under the US GENIUS Act Asset class Notes US currency Notes and coins US T-bills and Treasuries with Includes T-bills, notes and bonds Deposits at Federal Reserve banks Includes foreign branches Demand deposits at insured depository institutions Overnight repos collateralized by US Treasuries Includes reverse repos Shares in registered government money market funds Also includes securities registered under 1940 ￰76￱ Act Tokenized versions of the above assets If in compliance with applicable laws and regs.) is part of this, and the related concern SC issuers might switch investment out of permitted reserve assets into higher yielding and higher risk alternatives.

A collapse in the value of this collateral could then break the peg of the SC to the fiat currency, prompting capital flight and major ￰77￱ are designed to reduce the risks of fractional reserve systems… Similarly, the Bank for International Settlements ((BIS)) has highlighted the risk SCs pose to monetary sovereignty, transparency, capital flight risks in EM and from fragile pegs to underlying reserve ￰78￱ BIS also notes SCs may not have the unique characteristics required for ￰79￱ are defined as singleness (because the 1:1 peg might deviate from the fiat currency), no restriction to elasticity of supply (because SC issuers cannot expand their balance sheet freely) and integrity (because SCs can circulate freely across borders and may suffer from “KYC” and compliance issues). …from maturity transformation and lower quality reserve assets But fractional reserve banking systems, with greater elasticity of money supply and credit, carry their own risks and can be exposed to bank deposit runs, as the recent collapses of some US regional banks, Credit Suisse First Boston in 2023, and Northern Rock in the UK (2007) ￰80￱ addition, maturity transformation, ￰81￱ demand deposits in longer dated assets, and low quality reserve assets have played a part in recent banking collapses, including the GFC, but maturity transformation is not permitted, or minimal, for SC ￰82￱ criticism of SCs based on parallels with the GFC and the collapse in the shadow banking system are less obvious, since the underlying reserve assets in the GFC were mainly private, sub-prime mortgage-backed securities, and not US Treasury bills, or dollar cash, backed by the monetary ￰83￱ and properly-regulated SCs may well expedite faster cross-border payments, and serve as a successful bridge between crypto and fiat ￰84￱ and the impact on reserve currencies...

Fears of the dollar’s death exaggerated? Finally, given the regulatory backdrop, the US dollar’s dominance as a global reserve currency12, and that SCs can be used as settlement assets, it is perhaps unsurprising US dollar SCs comprise about 99% of global market ￰85￱ in itself poses a challenge to the Eurozone, since US dollar SCs could achieve a bigger market share in Europe, boosting the US dollar’s role further in cross-border ￰86￱ would cast some doubt on the popular notion of de-dollarization, often linked to the (modest) decline in US dollar holdings in central bank foreign exchange reserves in recent ￰87￱ is because it might reinforce the transactional dominance of the dollar in foreign exchange volumes, trade invoicing, cross-border liabilities denomination and foreign currency debt ￰88￱ 1 See Digital assets – evolution and correlations with other asset classes, FTSE Russell, February 2025 2 See What are stablecoins and how do they work?, Bank of England, November 2023.3 See From hype to hazard - what stablecoins mean for Europe, European Central Bank, Jurgen Schaff, July 2025.4 See “The recent distress in corporate bond markets: cues from ETFs”: Sirio Aramonte and Fernando Avalos, BIS bulletin No 6, April 2020.5 See Digital assets – evolution and correlations with other asset classes | LSEG, February 2025.6 See What keeps stablecoins stable? – ScienceDirect, Journal of International Money and Finance, March 2023.7 See Interest by any other name should be regulated as sweetly | Brookings, Aaron Klein September 2025.8 Regulation, Supervision and Oversight of “Global Stablecoin” Arrangements – Financial Stability Board, ECB October 2020, and Markets in Crypto-assets Regulation – European Commission, December 2024.9 Stablecoins could trigger taxpayer bailouts, warns Nobel economics laureate, Financial Times, August 31, 2025.10 See BIS, Annual Report, 2025.11 See “On the instability of fractional reserve banking” – Heon Lee, European Economic Review, September 2025.12 See Dollar demise, or a storm in a trade tea-cup? | LSEG, May ￰89￱ © 2025 London Stock Exchange Group plc and its applicable group undertakings (“LSEG”).

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