BRUSSELS — Few expected Tether, the world’s most prominent stablecoin, to survive the crypto market meltdown. Instead, the issuer of dollar-pegged digital tokens revealed it was thriving by this month posting a first-quarter profit of $1.5 billion that left most of its rivals in its wake.
So how did it manage to outperform the markets when so many licensed institutions failed to achieve similar gains?
One factor lies in Tether management’s savvy decision to stay away from longer-duration assets, which has allowed the stablecoin to benefit from higher interest rates, even as managers continued to reinvest up to 15 percent of investment profits in zero-yielding assets like Bitcoin. The other has been the fintech disruptor’s decision to set aside the bulk of its profits as excess reserves rather than to distribute them to shareholders or Tether holders, from the moment it first started reporting sizeable profits in December 2022.
Tether struggled for many years to maintain access to licensed banking services or reputable auditing services, forcing it to experiment with alternative ways of convincing the market of its conservative risk management processes.
Policymakers, however, are unlikely to be reassured by the self-styled capital buffers, even if they far exceed those they dictate to banks and other licensed non-bank operators. They’re still spooked by a market meltdown that has left millions of investors out of pocket and are thus keener than ever to move ahead with more onerous terms and conditions for crypto conglomerates like Tether, which count cozy linkages with digital asset exchanges in their structures.
“If investors and consumers opt to invest in these crypto assets, then it behooves us to come forward with an appropriate regulatory response,” Klaas Knot, the head of the Financial Stability Board, a global standard-setting body told POLITICO in Amsterdam this month.
The irony is that a crackdown on Tether could put many more millions at risk. Market turbulence has seen the company’s coffers swell to $82 billion as investors flee rivals for the safety of Tethers, dubbed USD₮, which offer investors an easy way to buy and sell crypto without having to use a bank account or money transfer.
But with Tether’s giddy rise to market dominance, the risk of systemic collapse is only increasing.
Repeated crises of confidence among stablecoins over the past year have only reinforced regulators’ suspicions amid a dramatic industry downturn that’s wiped out almost two-thirds of its market value, exposing frauds and charlatans on the way.
It was only in February that the New York State Department neutralized Tether’s second-largest rival, Binance USD. Tether’s closest competitor, Circle, then got embroiled in the collapse of Silicon Valley Bank because of the more-than-$3 billion of cash reserves it held on deposit at the bank. Of the fleeing investors, Tether hoovered up most of them.
Tether is at pains to dismiss any comparisons with felled crypto giants, such as disgraced trading venue FTX, that were once industry mainstays before collapsing under the weight of scandal.
“At the end of the year, we could be four, five billion [dollars] over-collateralized,” Tether’s chief technology officer, Paolo Ardoino, told POLITICO over two interviews in Paris and Rome. “So, whatever happens in this market, I can tell you that Tether is the last thing you have to worry about.”
Money in the bank?
To its critics there is still plenty to worry about. For years the company has come under scrutiny for its management of the financial reserves backing its stablecoin, which it once said were backed one-for-one by real-world dollars held in bank vaults.
That was in contrast to skeptics and short sellers who speculated that the token’s backing was only partial and that an attempt to redeem USD₮ tokens en masse would see the company implode, leaving its investors penniless.
In that context, the company’s reinvestment strategy amounts to the creation of a self-imposed provision fund — a move intended to bolster confidence in Tether’s tokens by sending a signal to the market that the capital can be tapped at any moment to fight off liquidity shortfalls or losses that might otherwise compromise its $1 dollar to 1 Tether peg.
Such concerns came to a head in April 2019 when New York investigators uncovered an $850 million hole in the company’s balance sheet, forcing it into an expensive settlement that committed it to disclose the contents of its reserves on a regular basis.
The most recent “attestation,” by accountancy firm BDO Italia, released May 10, shows the company holds more than half of its balances, some $53 billion, in U.S Treasury bills which generate a healthy 5 percent yield.
Another $10 billion of the portfolio is made up of mixed-volatility financial products that include Bitcoin, unspecified secured loans, unnamed corporate bonds and “other investments.” These assets can theoretically be sold at a pinch to keep their individual value at $1.
After years of facing tough questions over the sum of cash in its reserves, some point to the irony that Tether can now paint the near-complete absence of hard currency — accounting for a mere $481,350,555, or 0.5 percent, of the stablecoin’s total backing — as a major advantage over its professionally audited rivals.
“You saw what happened to our main competitor Circle,” Ardoino said in Rome. “The only way [to avoid such trouble] is to have T-bills.”
But the company’s penchant for crypto assets and unspecified secured loans is unlikely to win much favor from the FSB, which is developing strict standards for stablecoins that operate outside of the banking system and invest in exotic alternatives.
FSB chair Knot told finance ministers from G20 countries in February: “Most existing stablecoin arrangements do not meet the FSB’s high-level recommendations.” The body has also taken issue with Tether explicitly, noting its failure to produce a proper audit.
Misunderstood
Ardoino, however, was keen to present Tether as an ally, rather than a threat, to the global financial system and American interests. He said the company was cooperating with law enforcement across the globe and had worked to freeze $700 million in USD₮ balances across over “100 investigations.” USD₮’s use as a dollar alternative in poor countries, he added, actually assists the dollar’s penetration into global markets.
“Tether has a great relationship with the regulators,” Ardoino told POLITICO, while acknowledging that there was always greater safety in numbers when dealing with regulators than standing alone. “I’m just worried that the potential of this technology will be misunderstood.”
But Tether’s audits — or lack thereof — remain a sticky issue. Ardoino claims that none of the Big Four accountancy firms is willing to do a full-scale appraisal of Tether’s reserves, owing in part to the lack of clarity around stablecoin regulation despite rival Circle having a relationship with Deloitte. Not everyone’s convinced.
“We still fundamentally believe that Tether is screwed,” said the co-founder of Viceroy Research, Fraser Perring, a short seller who profited from the demise of Germany’s fintech giant, Wirecard, and the more recent collapse of Signature Bank in the U.S.
Perring was so sure that Tether’s finances were rotten that he bet 30 percent of his wealth on the company’s demise. The company’s resilience and success has forced him to reduce his exposure to Tether by half.
“Their biggest risk now is [U.S. Securities and Exchange Commission Chair Gary] Gensler, [who’s] asking for more cash to prosecute,” he said. “I think that everyone’s had it with crypto.”
Hannah Brenton contributed reporting from Amsterdam.
