Terra: Beyond Hope
What's been happening and what is next for the decimated stablecoin
16th May 2022
What's happening right now
- TerraUSD ($UST) De-pegged on 9th May - this caused a run on the bank and we saw huge withdrawals of the stablecoin, this collapsed the price of the sister coin Luna.
- the LFG (The Luna Foundation Guard) which is in charge of maintaining the stability of $UST, sold off 80k bitcoin to help maintain the peg
- The price of BTC subsequently crashed, further exacerbating the panic and bringing prices down further
- Do Kwon is proposing a fork that would create a new chain Terra 2.0
Let's discuss what happened and the response from Luna and the LFG. The date is May 11th, and the stablecoin is quickly losing its peg. Do Kwon, founder of the Terra Luna project, put forward the following proposal...
So what does this do. Well the proposal allowed for a faster pace of minting of Luna, this increases the supply and drastically affects the price of Luna, but would also ease the pressure on the UST side of the algorithm because the more Luna minted then the more UST is burned.
Remember: Investors can always swap one UST for $1 of LUNA and vice versa on chain. If UST falls below $1, investors can buy the discounted token, swap it for $1 in LUNA and then sell the newly-minted LUNA on the market for a profit. Each time this swap is made, the sold-token is burned
Do Kwon was aware of this, but there is little else that can be done as they try desperately to restore the peg. What did this do to circulating supply?
You can see that there was an explosion in the Supply of Luna, this will continue until the peg is restored. That's a 2 million percent increase in supply. We know the price is a function of supply and demand, and with this much supply the price of Luna was crushed.
They also sold off their 80,000 BTC reserve, LFG confirmed the transaction yesterday, saying that it transferred the 52,189 BTC in question “to trade with a counterparty… for an aggregate 1,515,689,462 UST.”
As of writing this is what is left of the LFG reserves:
2022/5/16 11:00 UTC LFG publishes breakdown of what's left of the reserves
Why sell off the BTC reserves? Well the point of them was to stop the bleed of UST and prop up the price. They sold BTC for UST ($1.5 billion worth) but it wasn't enough. Not only did the stable coin not return to $1, the price of BTC started to fall under the heavy selling pressure.
Then at 02:13 on the 13th May (with LUNA trading at : $0.024, $80M, UST : $0.18, $2.02B) Terra blockchain was halted, Binance suspends LUNA trading
This means that holders of UST can no longer swap for $1 of Luna and therefore are locked into the price of UST to exit their holdings. This sends the price of UST down further, although it would act to stop the hyper inflation in Luna, it is effectively the end of the project.
No. It definitely did not work. The value of Luna dropped by 99.99% - as 6.5 trillion coins were minted over subsequent days. The LFG sold off the 80k Bitcoin reserves, which may have propped up the UST price momentarily but caused a wider crash in the crypto markets which brought the price down further. Two key forces are acting on the price here:
- Market Panic - which causes a wave of selling of UST and Luna, this is a massive decrease in demand
- Hyperinflation - increase in supply as Terra mint a huge amount of Luna to prop up UST
This both has negative affects on the price of Luna and UST and it went through the floor.
The only way is down for Luna
As it stands, the terra blockchain has been shut down, there is no talks of a recovery plan from Do Kwon, who put a vote to the community trying to fork the blockchain instead. At time of writing, on 18th May, UST is trading at $0.001 This is essentially a reset, as they wind back the clock to a previous iteration of the blockchain. This doesn't help investors that lost everything, and people are against it.
Renaming the blockchain Luna Classic
His aim is to retain as much of the community as possible but it seems very unlikely to work. The damage is done and the liquidity has forever left the ecosystem. All that is left now are traders taking a punt on the high volatility, but once that fizzles out there will likely be nothing left but the husk of a once popular project. Do Kwon is now being sued in South Korea.
Many of the institutional investors that backed Terra Luna made it out unscathed. According to the new york times: Pantera Capital, a hedge fund that invested in Mr. Kwon’s efforts, made a profit of about 100 times its initial investment, after selling roughly 80 percent of its holdings of Luna over the last year, said Paul Veradittakit, an investor at the firm.
Pantera turned $1.7 million into around $170 million. The recent crash was “unfortunate,” Mr. Veradittakit said. “A lot of retail investors have lost money. I’m sure a lot of institutional investors have, too.”
It was retail holding the bag. What lessons can be learned from this event? That is what we will discuss next.. So stay tuned.