Crypto-currency — What is Tether?
An Imaginary Q&A about Tether! What fun!
What is tether?
Tether is a coin, that represents a redeemable coupon or IOU for 1 USD. Each tether in circulation represents 1USD that someone has given to the good folks that run tether — https://tether.to/).
Why is tether?
In the world of crypto, you leave your cash (or as crypto people superciliously call it, “fiat”) at the door. You exchange your cash for a coin of some sort — usually bitcoin (BTC) or Ethereum (ETH) and then use that to trade for other coins. While fun, it can be stressful — crypto markets operate 24/7, so if you’re trading and go to bed, it’s usually a good idea to lock away your gains (or mitigate your losses — hi 2018!).
In crypto, everything is a “coin”, and all coins are highly correlated with each other, so to be properly safe you would need to exchange your crypto for cash. This can have high fees. Furthermore, when moving your coins between exchanges the market can move — so what was worth 100 USD when you started the move might be worth 105 or 95 at the end. Less than ideal.
Tether, then, solves this problem — convert your crypto to tether, and then whatever you do after some time you pretty much have the same amount you started with. Because a tether is redeemable for a USD, price fluctuations are very very low and centered on 1USD.
Amazing. Tether sounds cool.
Well, not so fast. There are problems in the crypto market (hi 2018!) and a lot of people suspect that tether might be a critical problem.
Ooooh conspiracy. But it’s 2018 (hi!) and I have ADHD. Make it quick.
Basically follow @bitfinexed here on medium and twitter, and read Preston Byrne (https://prestonbyrne.com/), but the gist is: the tether.to company and the bitfinex.com (it’s the same leadership team) are accused of… unusual business practices, and with more than 2 billion tethers in circulation, that’s a big deal.
Oh give me all the details!
No. This article is going to center on the price of tether — at the moment at 98.3c, but normally anywhere between 97 & 99c — and what that means.
Why isn’t tether centered on 1USD anymore?
At the kraken exchange, tether is about 98.3c. In November, it was as low as 97c, and for late November, early of December it was at a touch above 99c. It really hasn’t crossed 1USD in a while, and this has had interesting effects on the pricing of various exchanges. But before we go there, an explanation as to why tether tokens are selling for less than 1USD.
It’s because of fraud, right?
Actually, no. For the rest of this article we’re going to ignore any allegations against tether and assume everything is functioning normally.
So… why?
Basically, it’s really hard to redeem that tether token for 1USD. It can take weeks if you redeem via the tether.to website, and both the tether.to and bitfinex websites have some interesting fees —
bitfinex fees (https://www.bitfinex.com/fees, Dec 2018):
tether fees (https://tether.to/fees/, Dec 2018):
As you can see, if you want to withdraw a lot of tethers, you’re going to be paying up to 3% for the privilege. This has immediate implications, so let’s talk about arbitrage.
Arbitrage
Arbitrage is what keeps markets consistent. Imagine you’re buying cows — if you know that Tom is selling a cow for 100 USD, and Sally wants to buy a cow for 110 USD, then you can make 10 USD really easily — you buy from Tom, and sell to Sally (buy low, sell high). Why Tom and Sally aren’t meeting in between isn’t important — the basic principle is:
- there is a limited amount of arbitrage to be executed
- there is a limited time for the arbitrage to execute in
In the scenario above, Tom only has one cow to sell, Sally is only buying one cow — so you can only make 10 USD. And they aren’t going to sit around forever waiting, if you don’t take the deal someone else will. Because there is a limited amount of cash it becomes competitive, in that the first person to make the deal wins.
What do cows have to do with crypto?
Everything. If you change “cow” for “bitcoin”, and put Tom on one exchange, and Sally on another, (there are several exchanged in crypto, each is a shallow pool unconnected to the others) then you can see the dilemma. As people trade in exchanges, those markets vary, and the various exchanges vary in, uh, varying ways. But if they variously vary too far, it’s invariable that someone will step in and buy/sell between them, causing prices to be roughly the same.
Why not identical? Example please.
Because it takes time to move a coin from one exchange to another, and the movement costs money, so you’re not going to make the exchanges match — if the cost to move coins from A to B is 5 bucks, and A is selling for 3 bucks less than B, then you’ll *lose* money if you buy in A and sell in B (because you make 3 bucks, but it costs 5 to make the trade happen).
So what does this have to do with Tether?
Ok. You cannot redeem a tether token for 1USD and walk away — depending on how much you traded you’ll walk away with 99 or even 97c. This is because of the fees above. Tether is the holder of the token IOU, so they’re really the only people who you can redeem it with.
As a result, if you see tether trading at 94c, then you can buy it, redeem it for 1USD and pay a small fee. Note there is a minimum fee of 60USD so you’d need to buy enough that the profit you make is more than 60 USD. And then, because you might want to do this a lot, you would only be able to buy as long as the price is less than 99c, or 97c if you *really* do this a lot.
Why does the fee raise the more you spend? That seems… not normal
It’s not normal, generally the more you spend the less people charge you, but let’s assume that’s normal.
Ok. So…?
So! Because tethers are only worth somewhere between 99c and 97c, the price lives in that area. And *because* the price lives in that area, exchanges that trade with tether have noticeably different prices than exchanges that don’t.
Example!
Take bitfinex.com — right now, a bitcoin sells for 3,408 USD.
In the same moment, on kraken.com, a bitcoin sells for 3,315 USD.
You might assume you can buy on kraken, sell on bitfinex and make money — but there is a problem!
Suspense!
Quiet. The problem is that bitfinex trades in tethers. Let’s imagine we try to make this trade:
- buy 1 bitcoin on kraken -3,315USD
- withdraw bitcoin from kraken — ฿0.0005 (https://support.kraken.com/hc/en-us/articles/201893608-Digital-assets-cryptocurrency-withdrawal-fees) (so you really end up with 0.9995 bitcoin)
- move BTC from kraken to bitfinex (let’s assume ~zero cost) (this can take an hour, so you better hope the market doesn’t move!)
- sell on bitfinex at 3,408 USD
- withdraw USD — either 0.97 * 3,408 or 0.99 * 3,408 (the withdrawal fees, depending on how much you’ve withdrawn)
You can do the calculations, you end up with either:
Profit if 1% fee: 3,408*0.9995*0.99–3,315 = +57.23
Profit if 3% fee: 3,408*0.9995*0.97–3,315 = -10.9
So in the latter case you actually *lose* money, and you only make 57 bucks in the first case — recall that bitfinex charges a minimum fee of 60 bucks, so you better be buying several bitcoins at a time to even make that work.
Note, however, that if the exchanges had the same cost for a bitcoin, then you would be losing quite a bit of money — we’ll examine why someone buys a bitcoin for more on the bitfinex exchange next.
But what’s important is that because fees make tether less value than a USD, exchanges that trade on tether have higher prices than ones that do not.
This is so critical I’ll repeat it
because fees make tether less value than a USD, exchanges that trade on tether have higher prices than ones that do not
You might wonder “why would anyone buy for a higher fee on those exchanges? What’s wrong with those people?”
Hi, i’ll do the questions
Oh, oh, sure, I forgot I was doing that. Sure, go ahead.
Why would anyone buy for a higher fee on those exchanges? What’s wrong with them?
Well, it’s the same arbitrage problem, only in reverse. You start on kraken, and change your USD for USDT. So if you start with 3,315 USD you end up with 3,372 USDT (you divide the USD by the rate you can buy USDT for, ~98.3c right now).
Now you move that USDT to bitfinex, buy bitcoin with it, move that bitcoin back to kraken and sell it. You would thus make money if bitcoin was selling at the same price on bitfinex as kraken. So — let’s imagine that both are selling for 3,315 USD or USDT, then:
- Buy 3,372 USDT on kraken –3,315USD
- Move USDT to bitfinex, paying 5 USDT in fees -5 USDT
- Buy 3,367 USDT of bitcoin ( — this gets you 1.015BTC)
- Move BTC back to kraken (less fees) -0.0004BTC
- Sell 1.0146BTC on kraken +3,363 USD
- You make ~50 USD in profit.
Because you can make this effectively risk free profit, and because arbitrage is about speed, people have already done it, and will keep doing it until the price moves to such a point that there is no point continuing to do this.
This has the result of raising the cost of bitcoin on bitfinex. This is because arbitrageurs will keep selling/buying until the price on bitfinex means you cannot profit, and this happens when the price is, oh, roughly ~3% higher. Which, unsurprisingly, is what the price difference tends to be between bitfinex and kraken
So the moral is?
Basically, tether tokens are sold at a discount on other exchanges because the tether company charges high fees to redeem the tokens. Because the tether company, for some unknown reason, will not buy their tokens on the open market when it would be profitable for them to do so, exchanges that are based in tether have higher prices than those based on USD. This last fact is not surprising, and due to normal market operations.
The issue arises because the tether company is not active in other exchanges, even though it would be quite profitable for it to do so.
