Terra LUNA Crashes to almost Zero as UST Struggles to Maintain Its Peg
The Terra ecosystem collapsed almost entirely today. The UST stablecoin remains stagnated in the sub-dollar region for the third day running, and LUNA, its sister token, has fallen almost 99% off its 2022 high.
The Events Leading Up to the UST Crash
7th May: Starting around May 7th at 4 PM EST, Terra lost its peg. The first warning signs of a crash were seen on the same day when a group of UST investors sold more than $500M of their holdings on Anchor, a popular savings protocol, and the largest supply silk for UST.
While there were some major concerns, the news didn’t take much flight as Terra’s team said there wasn’t anything to worry about.
Terraform Labs also removed $150M of UST liquidity from the Curve pool on the same day. Nearly a minute later, $84M of UST was dumped in the market from a freshly funded address. It triggered a major sell-off event crashing UST once more.
There were speculations that Luna dumped UST on the holders, but Do Kwon, the founder of UST has denied any claims.
9th May: Despite two days of UST being unpegged, it could not maintain its dollar value. It caused a lot of fear in the market and spread volatility due to speculations of a UST crash.
The Luna Foundation Guard (LFG), which is an organization in charge of protecting the peg of UST, released its first statement through a tweet. The core of the tweet thread reads:
Despite a $1.5B injection from the LFG, the panic was already widespread causing the market cap of LUNA to fall below UST at 1 PM EST. It was the final nail in the coffin.
The way UST works in relation to LUNA is that traders can redeem $1 of LUNA for $1 of UST, which ensures that the price of UST is pegged to the dollar regardless of what happens in the market.
However, LUNA lost its 1:1 parity to UST when its market cap fell below its stablecoin, meaning that traders had to incentive to hold UST. On Monday morning, UST had almost 0 liquidity on most exchanges as there were no buyers.
Did Bitcoin Crash Due to the UST Plunge?
The Luna Foundation Guard was actively buying BTC for the last few months as a reserve to back UST.
Before the crash, Luna nearly had $1.5B in BTC reserves. However, they had to drain it entirely to inject capital into UST in hopes of maintaining its peg.
As Luna sold nearly 42.4k BTC in a matter of hours last Monday, panicked traders flocked together to press the sell button as BTC’s price crashed significantly from 33k to 29k, putting the whole market in jeopardy.
What Does It Mean for BTC and the Crypto industry?
The latest UST and market crash was not surprising for many as the mechanics on which UST operated were always seen as a systemic risk for crypto.
Unlike other stablecoins (USDT and USDC), which rely on real dollar reserves, UST is an algorithmic stablecoin that maintains its peg through an incentive mechanism.
Anyone holding LUNA can burn $1 worth of LUNA to mint 1 UST or burn 1 UST to redeem $1 worth of LUNA.
If the peg is not restored through natural demand, as it happened recently, the LFG will have to deplete its BTC reserve to buy UST. So, whenever UST drops, there will be panic in the market, creating selling pressure.
Currently, things have cooled down a bit as UST is trading above $0.80 but still fails to hold its peg. On the other hand, LUNA has collapsed to circa $1 as of Thursday morning (GMT+8), over 99% below its peak price of $119 which was achieved just about a month ago.
This is a developing story.