Stablecoins and their Role in Liquidity and Arbitrage
Stablecoins are the settlement layer of crypto trading. Most pairs quote against them, most collateral is held in them, and most value moves between venues as them.
Why they exist
Fiat banking is slow and restricted: transfers take days, do not run at weekends, and many crypto businesses struggle to obtain banking at all.
A dollar-pegged token settles in minutes, any hour, with no bank in the loop. That is the entire value proposition, and it is why stablecoins became the base currency of the asset class rather than actual dollars.
What they enable
Pricing. Quoting BTC/USDT rather than BTC/USD lets a venue offer dollar pricing without touching the banking system.
Parking. Exiting a position into a stablecoin means going flat without leaving crypto, which is far faster than converting to fiat.
Arbitrage. Since capital cannot chase opportunities quickly, stablecoins are how inventory is rebalanced between venues. Faster and cheaper than moving BTC, and without price exposure in transit.
Collateral. Most derivatives margin is posted in stablecoins.
Stablecoins are the plumbing. Nearly every crypto position is quoted in, collateralised by, or settled through one, which makes issuer risk a systemic exposure rather than an isolated one.
The designs and their failure modes
Fiat-collateralised (USDC, USDT). Backed by reserves held by an issuer. The risk is whether reserves exist, are liquid, and are accessible. This is credit risk on a company, and it has been tested: USDC briefly traded below a dollar in 2023 when part of its reserves sat at a failing bank.
Crypto-collateralised (DAI). Over-collateralised with crypto, transparent on-chain. The risk is a sharp fall in collateral value outrunning liquidations.
Algorithmic. Maintained by a mechanism rather than reserves. The category's record is poor, and the 2022 failure of a major algorithmic stablecoin erased tens of billions of dollars within days.
Depeg risk is correlated across your whole book
The point that matters most for a trading operation.
If the stablecoin you quote in, hold collateral in, and settle through loses its peg, every position is affected simultaneously. Hedges denominated in it do not protect you. Margin posted in it is worth less. Prices quoted against it become ambiguous.
This is not a diversifiable exposure, which is why serious operations spread across issuers, monitor reserve disclosures, and treat stablecoin balances as counterparty exposure rather than as cash.
Ask what a 5% depeg would do to your book. If the answer is "everything at once", the exposure is larger than the balance sheet suggests, and it is the single most underpriced risk in crypto trading.