A Sudden Loss of Faith in Tether Would Pose Risk to Bitcoin, JPMorgan Says

According to analysts at JPMorgan, the bitcoin market could face severe liquidity shock if traders were to lose faith in tether (USDT) – a stablecoin widely used to fund cryptocurrency purchases. 

"If any issues arise that could affect the willingness or ability of both domestic and foreign investors to use USDT, the most likely result would be a severe liquidity shock to the broader cryptocurrency market, which could be amplified by its disproportionate impact on HFT [high-frequency trading]-style market makers which dominate the flow," analysts at JPMorgan mentioned in an 86-page report published Thursday. 

Tether's value is linked to the U.S. dollar on a 1:1 basis, and the stablecoin is backed by reserves, including "traditional currency and cash equivalents and, from time to time, may include other assets and receivables from loans made by the Tether issuing company to third parties, which may include affiliated entities," according to the company's official website. 

USDT's market capitalization has increased from $4 billion to over $33 billion in the past 12 months – a sign of its increasing use as a funding currency. According to data collected by asset manager NYDIG and cited by JPMorgan analysts, around 50%-60% of bitcoin traded for USDT since 2019. 

Hence, a sudden loss of confidence in tether could end up triggering the crypto version of a bank run, destabilizing exchanges and causing a panic drop in bitcoin's price. A bank run occurs when many depositors withdraw their money at the same time over concerns of the bank's solvency. 

While tether functions like a traditional bank, it's worth noting that it is not subject to a strict supervisory and disclosure regime as conventional banks. According to the analysts, the company hasn't produced an independent audit yet, and concerns regarding reserves and finances linger, posing a tail risk to the bitcoin market. 

Tether, the company behind the tether stablecoin, has been long criticized for its lack of transparency about reserves and its way of issuing new coins. So far, however, the crypto market hasn't paid much heed to such concerns. 

Part of that lack of heed may stem from the fact that during the price rally seen over the past 12 months, U.S. dollar-based trades have been, on average, larger than USDT-based trades, according to Kaiko Research. As such, the risk of a big price crash on the potential loss of confidence in tether appears low.

The JPMorgan analysts did say, however, that they believe bitcoin is here to stay as an alternative cryptocurrency.

"Bitcoin's competition with gold as an "alternative currency" will likely continue as millennials become a more important component of investors' universe and given their preference for 'digital gold' over traditional gold," analysts said, adding that its long-term target of $146,000 is contingent on its high price volatility converging with gold's volatility, which is a multi-year process.