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What is Tether’s gold-backed stablecoin, ‘Alloy’ (aUSD₮)?

What is a tethered asset?

Tethered assets are a versatile class of digital tokens designed to track the price of various reference assets, such as the United States dollar.

Also termed stablecoins, tethered assets can be backed by a single type of collateral, such as gold, a specific fiat currency, or a diversified portfolio of multiple assets, offering greater flexibility and risk management options. This flexibility allows tethered assets to track the price of a wide range of assets, including major fiat currencies like the U.S. dollar or euro, commodities such as gold, oil and wheat, or even other financial instruments like stocks or bonds.

Tethered assets maintain their peg to the underlying asset through various mechanisms, often combining overcollateralization with robust liquidity pools on secondary markets. By holding reserves exceeding the value of the issued assets and ensuring smooth trading in secondary markets, these strategies aim to stabilize the value of the tethered asset and closely align it with its reference asset.

A well-known example of tethered assets is Tether (USDT), which claims its reserves match the quantity of USDT in circulation. It aims to maintain a 1:1 peg with the U.S. dollar. Despite its growth, Tether has faced scrutiny and regulatory challenges due to depegging events.

To address such issues, Tether regularly undergoes independent attestations to verify its reserves in response to regulatory scrutiny. In April 2024, Tether completed a System and Organization Controls 2 (SOC) audit, which is the highest level of security compliance. Additionally, it publishes quarterly reports detailing its reserves and asset composition to enhance the transparency of its operations.

Alloy (aUSD₮) by Tether, explained

Alloy (aUSD₮) by Tether is minted using EVM-compatible smart contracts and leverages Tether Gold (XAU₮), a digital representation of physical gold, for stability.

AUSD₮ is the first Alloy by Tether designed to track the U.S. dollar using Tether Gold as collateral. It is minted using Ethereum Virtual Machine (EVM)-compatible smart contracts, allowing for smooth interoperability and integration within the broader Ethereum ecosystem and its various compatible blockchains.

Using Tether Gold (XAU₮) as collateral, Alloy by Tether positions itself as a digital asset anchored to the stability and scarcity of gold, a traditional store of value known for its low volatility. XAU₮ is an ERC-20 token equal to one troy ounce (31.1 grams) of gold on the Ethereum blockchain. Each blockchain address holding XAU₮ is associated with real gold stored in a Switzerland vault on behalf of Tether Gold tokenholders.

But is Alloy by Tether licensed in any jurisdiction? Alloy by Tether is a technological platform that utilizes smart contracts. However, the National Commission of Digital Assets (CNAD) in El Salvador authorizes Moon Gold NA, S.A. de C.V., and Moon Gold El Salvador, S.A. de C.V. to handle issuing and management of aUSD₮.

How to interact with the Alloy by Tether smart contracts?

Alloy by Tether smart contracts are accessible through the platform’s user-friendly web interface, where users can mint and redeem aUSD₮ using XAU₮. The web interface is readily accessible at alloy.tether.to.

Technically proficient individuals can interact directly with the contracts using specialized tools. It’s important to note that only verified Ethereum addresses that have completed Know Your Customer (KYC) checks can engage with these smart contracts. Further information can be obtained via front-end documentation on Alloy by Tether.

How Alloy (aUSD₮) works

AUSD₮ blends the stability of the U.S. dollar with the value-preserving characteristics of gold, serving as a stable unit of account. Three core tenets of the functionality of aUSD₮ are overcollateralization, vaults and its liquidation mechanism:

Overcollateralization

A key feature of aUSD₮ is overcollateralization. AUSD₮ tokens are backed by a greater value of Tether Gold (XAU₮) than its face value. This surplus XAU₮ acts as a buffer, safeguarding the stability of aUSD₮ against potential fluctuations in the price of gold. This means that users must deposit a larger value of collateral than the value of aUSD₮ they intend to mint.

By locking a specified amount of Tether Gold into a smart contract, a user can mint a corresponding amount of aUSD₮. The maximum aUSD₮ one can mint is determined by a collateral-to-asset ratio, known as the liquidation point.

Alloy by Tether Vaults

Ethereum-compatible core smart contracts termed Vaults are used for minting and managing aUSD₮. These smart contracts facilitate independent and permissionless verification of the XAU₮ collateral backing aUSD₮ circulation.

Vaults play multiple roles in aUSD₮ ecosystem:

Storing users’ collateral

Storing unissued aUSD₮

Storing users’ collateralized minted position (CMP) information

Storing address metrics such as minted aUSD₮, provided XAU₮ and the position’s mint-to-value (MTV) ratio

Only addresses that have successfully completed a KYC verification process can interact with the vaults and mint aUSD₮. These verified addresses are whitelisted for the minting process.

The vault utilizes this data to assess the position’s solvency. If it nears liquidation, authorized liquidators are permitted to intervene, extracting the user’s XAU₮ and returning a corresponding amount of aUSD₮ not exceeding the minted amount. This mechanism safeguards the system’s integrity and protects against undercollateralization.

Each vault uses a designated oracle to determine the prices of both XAU₮ tokens and the corresponding tethered asset. For aUSD₮, the tether asset oracle specifically tracks the U.S. dollar price, establishing a 1:1 peg between aUSD₮ and $1.

As the Vault technology automates the processes of minting, redeeming and liquidating aUSD₮ while ensuring transparency and trust in the system, it is crucial for the functioning and security of the Alloy by Tether system.

Liquidation of collateral

Liquidation occurs when the value of the collateral backing a minted amount falls below a predetermined threshold. Each CMP has a liquidation point of 75%, defined by the maximum MTV ratio, representing the maximum proportion of the collateral’s value that can be minted. A CMP, in this context, refers to the amount of aUSD₮ minted by a user backed by a specific amount of XAU₮ held as collateral in the vault.

If a position nears its liquidation threshold, authorized liquidators intervene to liquidate the position, reclaiming the user’s XAU₮ and returning aUSD₮ up to the initially minted amount. Liquidators manage positions nearing liquidation by acquiring the collateral at a small discount in exchange for returning aUSD₮. They may purchase part or all of the collateral, depending on the situation and the agreed discount.

How to acquire Alloy (aUSD₮)

Users can obtain aUSD₮ by depositing XAU₮ to the aUSD₮ smart contract or trading it on exchanges like Bitfinex. Fees apply for minting, returning and liquidating aUSD₮.

Users can obtain aUSD₮ by transferring XAU₮ to the aUSD₮ smart contract, which then mints and issues a corresponding amount of aUSD₮ directly to the user’s address or trading aUSD₮ on the secondary market via centralized exchanges like Bitfinex or decentralized exchanges (DEXs).

The Alloy by Tether charges three types of fees, measured in basis points (bps). A basis point is a unit of measurement used to describe a percentage or a difference in interest rates or yields. One basis point is equal to 1/100th of 1% or 0.01%.

Mint fee

The mint fee refers to the fee incurred by users when creating new aUSD₮ tokens. At present, it is charged at 25 bps on each newly minted aUSD₮.

Return fee

The return fee is the fee paid by users when redeeming aUSD₮ tokens for their underlying collateral. Currently, a fee of 25 bps is applied on each aUSD₮ return.

Liquidation fee

A liquidation fee is a charge incurred by users when their collateralized position (the ratio of XAU₮ to aUSD₮) falls below a certain threshold, triggering a liquidation event. At present, 75 bps are charged to the liquidators on each liquidation of XAU₮, implying that for every XAU₮ token a liquidator acquires during a liquidation event, they must pay a fee of 0.05% of its value.

It is worth noting that the liquidation fee is different from the liquidation premium, which is a discount on liquidated XAU₮ used to incentivize liquidators to maintain system solvency. In contrast, the liquidation fee is paid by the liquidator to the platform or protocol and helps cover the operational costs associated with the liquidation process.

What are the advantages of aUSD₮?

AUSD₮ offers various advantages, including stability through its dollar peg and gold backing and transparency through auditable smart contracts.

AUSD₮, backed by Tether Gold (XAU₮), offers a unique investment opportunity. The U.S. dollar peg and the intrinsic value of gold, a well-known safe-haven asset, stabilize the stablecoin. This combination reduces volatility frequently connected to cryptocurrencies by providing a reliable store of value.

Furthermore, aUSD₮ is based on the Ethereum blockchain and utilizes auditable smart contracts, providing secure, transparent minting and redemption processes. The overcollateralization model and compatibility with the Ethereum ecosystem further facilitate yield generation and seamless integration with different decentralized finance (DeFi) platforms.

Functioning entirely onchain, it offers a resilient alternative to the traditional banking system, providing investors with stability, diversity and passive income opportunities (e.g., a yield from overcollateralization).

Tether’s fiat-pegged tokens (USD₮) vs. Tether Gold tokens (XAU₮), vs. Alloy by Tether (aUSD₮)

USDT is a stablecoin pegged to the U.S. dollar; XAU₮, a gold-backed token representing one troy ounce of physical gold and offered by TG Commodities Limited; and aUSD₮ is a stablecoin pegged to the U.S. dollar but backed by Tether Gold (XAU₮).

While Tether (USDT) is designed for everyday transactions, XAU₮ is ideal for investors seeking exposure to gold, and aUSD₮ combines the dollar’s stability with the security of gold, offering potential yield generation through its unique overcollateralization mechanism.

The table below explains the key differences between Tether’s fiat-pegged tokens (like USDT), Tether Gold tokens (XAU₮) and Alloy by Tether (aUSD₮) across various parameters:

Tether’s fiat-pegged tokens (USD₮) vs. Tether Gold tokens (XAU₮), vs. Alloy by Tether (aUSD₮)

How can users retrieve XAU₮ deposited as collateral?

Users can retrieve deposited XAU₮ by requesting a withdrawal. To avoid denial, the MTV ratio must stay below 75% (liquidation point).

Users must initiate a withdrawal request from Alloy using the Tether Vault smart contract. If the withdrawal causes the MTV ratio to surpass the 75% liquidation point, the request will be denied. This is to ensure the system remains overcollateralized.

A withdrawal request will not be approved if it increases the MTV ratio beyond 75%. In such situations, users can lower their MTV ratio by returning a portion of their minted aUSD₮ before trying to withdraw again. Also, it’s crucial to remember that withdrawing XAU₮ without a corresponding return of aUSD₮ increases the MTV ratio, thus raising the liquidation risk.

Furthermore, to recover all deposited XAU₮, users must return the entire minted amount of aUSD₮ they minted. This may require buying back some aUSD₮ on the secondary market to compensate for the deficit and successfully complete the withdrawal process.

So when is repurchasing aUSD₮ needed for XAU₮ withdrawal? Users pay a minting fee when they mint aUSD₮. Similarly, when they return aUSD₮ to redeem their XAU₮ collateral, a return fee is charged. These fees are deducted in aUSD₮.

That’s why a user must return all of the aUSD₮ they minted before withdrawing all of their XAU₮; however, due to the fees incurred during minting and returning, the amount of aUSD₮ they have might not be enough to cover the full return, and they need to purchase additional aUSD₮ on the secondary market.

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