Steemit For Investors #2 - How Steem Dollars Hold Their Peg to US Dollars - By Leon Fu Dot Com
By Leon Fu Dot Com, The Oracle of Austin
Many people are asking what are Steem Dollars (SMD). They are intended to be a stable value currency on the SteemIt platform. I will try to summarize my understanding of the white paper, for those don’t want to read, or don’t understand it.
- SMD's are generated by the blockchain when SteemIt posts are up voted by readers. SteemIt calculates the value of a post by the number of up votes and the STEEM Power each of those up votes have. The value is split 50/50 between SMD and STEEM Power. This is how SMD’s come into existence.
- First thing to know is that there are no USD’s backing the value an SMD. The value of an SMD is pegged to a USD solely by the SteemIt’s blockchain’s ability to create unlimited amount of STEEM’s, destroy the supply of SMD’s when they are redeemed for STEEM, and speculators/users willing to hold and buy STEEM’s for BTC or USD. When 1 SMD is created, $19 worth of STEEM are also generated to back that SMD.
- The second piece of the system is electing people to provide an honest price feed of STEEM to USD. These people are elected by STEEM holders to provide this price feed. They are compensated in STEEM for this service, and there is a formula to average the price from feed providers. If they don’t provide accurate data, they can be kicked off the system and a new price feed provider can be elected. This allows the blockchain to redeem an SMD, for the fair value of $1 USD worth of STEEM.
- Another tool SteemIt uses to peg the value of a SMD to USD is with interest rates. Holders of SMD are paid interest in additional SMD’s. If SMD were to fall below USD, interest rates could be raised to increased demand of SMD.
- Right now, SMD’s are trading above 20%-30% above USD. Think of SMD’s as debt denominated in USD the community must pay back with interest in STEEM. If SMD’s trade above US$1, it means the market is willing to lend more credit than the debt the community is willing to take on. There’s not much that can be done than setting interest rates to zero, unless the system charges negative interest rates, which it can’t do right now.
SMD’s are designed to be a stable value currency to be used within the system. It uses a combination of price feeds, the ability of the blockchain to create new STEEM’s to back SMD’s, and interest rates on SMD’s to stabilize its value to a USD. There are no actual USD’s you can redeem for SMD’s. You must sell SMD directly for BTC, or convert the SMD’s to STEEM’s and sell those for BTC on an exchange, which you can sell for USD or whichever fiat currency. If the system works as intended, you should always be able to redeem 1 SMD for $1 USD worth of STEEM or better.
Very clear explanation, this is one of the most confusing aspects when people ask "where does the money come from?". It definitely ties it all together, speculation from users, traders and investors is what drives the market and if you think about it that's exactly how it works with Facebook or Twitter.
As it is a very disruptive and untested model my doubts are mostly about how this all will play out. Will users trust the platform and keep SP or cash out inmediately? Will people flock to invest in it? And that's the beauty of it, we don't really know but seems like some will and some won't. The bottomline is that if it keeps gaining active and legitimate users, social media figures and even celebrities then Steem will definitely thrive.
In my view, the way SMD works is similar to the way Chicago Mercantile Exchange works. The CME trades futures contracts on commodities like live cattle, hogs, milk, orange juice, etc. If you buy futures contract for 100 heads of live cattle, is the exchange going to settle that contract by delivering actual live cattle to you? Of course not. No one is going to give you cattle for your cattle futures contract. They will settle the contract with the cash difference between the spot price of cattle and price of the contract. If you want real cattle, you'll have to get them at the ranch from a rancher, not at a futures exchange. Yet prices are set by the exchange, not by the rancher who has the actual cattle to deliver.
It is only a game of confidence. If enough ranchers lose faith in the CME, they won't accept the price on the exchange for their cattle, then the futures on that cattle become worthless. For SMD, it should work the same way. If people lose trust in the price feed providers of what a STEEM is actually worth, then SMD would also not be worth $1 if there is no one to sell it to for $1 worth of BTC.
Well today, it's 85 cents...
Time to buy or is something going wrong?
https://steemit.com/steemit/@aaseb/sbd-85-cents
The peg is to the 7 day average price of Steem, not the price at any given moment. You can see what this price is at: https://steemd.com
At the moment, it's $3.44, but the price at Poloniex is $2.80, which is ~81% of the feed price. If the feed price is above the market price, SMD's will trade below $1. If it's below, it will trade above $1. Remember the fundamental value of SMD's is the ability to redeem it for STEEM at the feed price.
I think I understand a little better now. That should create good trading opportunities. Thanks Leon
Good job, thx!
@cryptomarket With Steem Dollars pegged to USD, does that mean it is impossible to see it rise to ETH/BTC values i.e. much much greater than 1 USD?
@cryptomarket Good article! keep up with the good content!
$19 of Steem is generated to back 1 SD? Wouldn't that devalue the STEEM trading price because there are now at this time approx. 5 STEEM backing every SD?
Yes, if there was a sudden collapse in the price of STEEM, and no recovery in price, the peg may break. Quote from the white paper:
Leon Fu
Thanks Leon
Good read! @leon-fu its a good thing ive been follwing you at twitter. Very informative, perfect for crypto traders that are non technical like me
Don't forget, crypto being crypto, we will see the moon and we will watch it crash hard, many, many, many times :)
True, which is why Steem Dollars were created to protect Steem users.
Thanks for the information - getting to understand crypto and steem more and more
Any chance to see SMD/USD on an exchange soon?
I don't see one coming anytime soon. They'll be regulations with the gov't in order for that to happen. But Poloniex has an SMD/BTC market: https://poloniex.com/exchange#btc_sbd
Hey Leon. Thanks for a great post. Just a note, SBD/BTC trades on both Polo and Bittrex. Also, technically Steem-backed Dollars (SBD) can currently be traded on OpenLedger against BTC and BTS (or, for that matter, against any other asset on OpenLedger), although so far all the Steem volume on that exchange is for STEEM itself (STEEM/BTS and STEEM/BTC), not for SBD.
Looking forward to more posts from you and Tai Zen. By the way, I really hope you will both consider doing a nice, solid introduceyorself post to let the Steemit community at large know your credentials/following in the crypto investing space. I think it will really help you to more quickly jump start your following here. Check out the post linked below as an example of a very successful introduceyourself post. Cheers.
https://steemit.com/introduceyourself/@allasyummyfood/7dek2o-hello-steemit-my-name-is-alla-i-am-a-youtuber-and-private-chef-with-my-own-show-let-s-do-this
Good read! @leon-fu its a good thing ive been follwing you at twitter. Very informative, perfect for crypto traders that are non technical like me
Steem dolars can be traded at polo
thank you Leon, great insight
https://steemit.com/steemit/@andrarchy/steemit-s-real-diabolical-plan-for-world-domination