What are USDS and Sky Protocol?
USDS is a decentralized stablecoin that’s minted and governed by Sky Protocol. It is the newly branded and upgraded version of MakerDAO, one of the most secure and battle-tested protocols in the entire decentralized finance space. USDS was built as the direct successor to MakerDAO’s stablecoin DAI. Both USDS and DAI utilize an overcollateralized model; however, USDS’s model has been redesigned to achieve greater cross-chain utility and adoption.
Centralized stablecoins like Tether’s USDT work by having a company that prints tokens and reserves an equivalent amount of cash in their bank account. USDS is different: it is fully collateralized by crypto assets (mostly ETH, USDC, and real-world asset tokens) and interactions with the stablecoin are handled by on-chain smart contracts. There is no central authority able to mint new tokens or freeze funds; anyone can mint or burn USDS as long as they follow the protocol’s rules.
The US Dollar Sky Token (USDS) has a soft collateralization target of $1.00. Anyone who owns legacy DAI can claim an equal amount of USDS tokens free of charge and maintain their current dollar balance while accessing new features within Sky’s ecosystem.
How USDS Maintains Its Peg
USDS maintains its peg through an overcollateralization model. There is more value locked in collateral than there is USDS issued. Should a position’s collateral dip below a certain threshold, the protocol liquidates it automatically. This mechanism has already been battle-tested through several crypto market crashes. It’s partially why MakerDAO’s model has stood strong in decentralized finance for years.
Sky Protocol also launched the Sky Savings Rate (SSR). This rewards USDS holders with a native yield by simply depositing their tokens into the savings module. There is no need to stake or use a third-party platform. This differs from most stablecoins, where the issuer simply accrues most of the yield from the reserves themselves.
USDS Use Cases
DeFi Collateral and Liquidity: USDS serves as collateral for borrowers in lending protocols as well as a stablecoin pair in liquidity pools. Many protocols prefer decentralized options like USDS to maintain access to stable value without relying on centralized stable issuers.
Savings and Yield: USDS holders can earn yield on their otherwise idle balances by utilizing the Sky Savings Rate module directly in protocol.
Cross-Chain Transfers: Using Sky’s SkyLink technology, USDS can natively transfer between Ethereum and Layer 2 ecosystems such as Arbitrum and Base, versus using a third-party bridge and exposing users to additional smart contract risk.
Payments and Transfers: USDS can be sent anywhere around the world for a fraction of the cost of traditional finance to anyone who holds a compatible wallet. Stablecoins like USDS also settle in seconds vs days.
The fact that on-chain transaction volumes for stablecoins have surpassed payment networks like SWIFT speaks for itself. Stablecoins like USDS are starting to be considered for serious financial infrastructure use cases.
What to Consider Before Buying USDS
As with any asset, there are a few things to know before holding USDS. While USDS’s overcollateralization model provides significant bankruptcy insurance, it is not entirely risk-free.
Collateral Risk and Peg Stability
A coordinated crash in the value of several collateral assets could pressure the system; however, USDS has automated liquidations and a built-in buffer to absorb such shocks. Additionally, on-chain risk analytics firms have recently rated USDS as low risk on all major networks, citing the USDS price history, which has remained between $0.99 and $1.01 on all chains.
Address-Freezing Function
USDS smart contracts contain a functionality that allows freezing of addresses. This functionality was added to help meet institutional compliance requirements. For those who care about not having their address frozen, this is an important distinction from DAI’s original censorship-resistant vision.
SKY Token and Protocol Governance
SKY holders also have a voice in how the protocol is run. Changes to the protocol such as collateral types accepted, savings rates, and stability fees are decided by SKY holders. If you’re unfamiliar with crypto governance, check out our beginner’s guide to blockchain.
Current Price of USDS in the Market
USDS is kind of in the middle ground of stablecoins these days: more transparent than the centralized options, tougher than a lot of the new ones on the decentralized block, and trending towards more institutional features. Many crypto exchanges have been increasing their support for USDS since the move from DAI which has expanded its liquidity presence as well.
If you’re already in DeFi, think of it as a convenient stablecoin unit of account. If you’re looking in from the outside, I think the best place to start is with the composition of Sky’s governance token supply and overall collateral mix.
