All Been Crypto — Week 13 May 2022
This is what you call blood on the streets — It was a brutal week for crypto we shaved of $500bn in market cap and are now down to $1.3tn, after the implosion of the Terra/Luna ecosystem ( 50bn market cap alone). Naturally in this risk environment we saw a flight to safety and BTC dominance jump 4% to 43% despite BTC also down -20%. The pain if felt throughout the entire crypto market and especially in the cosmos ecosystem and VC backed ALT L1s. The only outperformer this week is MKR +17% after the incredible +50% rally during the last 24h with DAI remaining the only battle tested ‘decentralized’ stable coin standing. In the news we will digest more in detail what happened to UST/Luna and implications for our industry. There is now increased regulatory scrutiny again upon stable coins. Even if you think it’s almost not worth mentioning other news because this story has been so dominant especially in times like this its important to not lose focus on the bigger picture. There were a few funding rounds completed, in Australia we had the first spot BTC EFT approved, a court in Shanghai ruled BTC as property rights and some revelation at one of the most prominent NFT projects Azuki. I hope you are weathering alright through these tough markets and this weekly helps you make sense of the markets.
Bat Tai Chi — email@example.com
Terra is gone, the token dropped from >100 to a few fractions of a cent in the course of a few days evaporating an entire ecosystem. The chain even had to halt last night to prevent governance attacks. How did this happen and how did it happen so fast? In order to understand we need to first know how the relationship with UST and LUNA works. Basically Luna’s entire ecosystem is build with the algorithmic stable coin UST at the core and the mint/burn mechanism. Here’s if you need to catch up on the mechanism. This is nothing new and in fact algorithmic stable coins have been called Holy grail of crypto for a long time. So far non of them have succeeded and many taking the view its even impossible (especially after terra’s spectacular failure). So the warning voices were always there just maybe not as loud as we would have liked them to be. The last ‘major’ one that at least that I remember is not even a year old Iron Finance one. Now Luna had much bigger size and they were actively trying to build up treasury in BTC to avoid this death spiral but this might actually been the reason why it failed. Critics also say it was in a way DoKwon (the leader behind the project) admitting that the pegging mechanism was subject to failure risks through a death spiral. Here’s a good timeline of the events that happened. It’s still not 100% clear but most agree that there was one sizable actor that found a vulnerability and an opportunity for a trade, similar to George Soros with the Bank of England in 1992. Key to this was the transition from 3pool to 4pool which for a short period of time left very little liquidity in the market. These pools are basically ways for you to swap from one stable coin into another and usually trade 1:1. If the pool is imbalanced the ratio changes and the lower liquidity in the pool the easier to push it one way. Once the peg broke in the pool then next was on CEXs and at the same time institutions started to get nervous and withdrew their UST from Anchor. LFG managed to push peg back but never managed to restore confidence. The death spiral had already started. There are still >10bn in UST outstanding but because LUNA inflation is so high now and everyone wants out at the same time the create redeem mechanism is not functioning properly anymore. It is for that reason that UST is currently trading at 0.1 and can even drop much further. The unwind is ongoing and the story is not fully written yet but the outcome is already clear. Another failed algo stable coin for the history books. What remains is many retail that have lost fortunes and therefore regulators turning focus on stables.
US Treasury Secretary Janet Yellen was very quick to take notice of the events unfolding around UST depeg and reiterating the risk this would bring to financial stability. Now we know the Treasury is no fan of crypto but it seems inevitable that there will be more scrutiny on stable coins. One guess is US exchanges likely will have to be very selective what stable coin trading pairs they are allowed to offer. We can only hope that there will be a distinction made between collateralized and overcollateralized stable coins and UST and algo stable coins (which bear much higher risks). I very much like how Arthur Heyes puts it overcollateralized stable coins (i.e. DAI) have worked but are not scalable and so market will continue to experiment with algo or other type of stable coins. We already saw market becoming really nervous about the remaining stable coins and USDT briefly traded at 97c on concerns of another stable coin bank run and the 3pool is still not looking very healthy. But the risk with USDT is not binary, its a centralized entity and they sit on assets that are not crypto. So even a bank run there could result in a short term depegging but at a haircut some actor will pick up USDT so the algo stable coin death spiral a la UST can most likely be avoided. At the same time USDC (by far considered the safest of all stable coin assets out there for now) but also DAI and even BUSD traded at 1–2% premium to the dollar showing you what levels of stress market was going through. Regulation will come on stable coins but let’s hope it doesn’t cripple the sector and innovation.
Azuki is one of the TOP 10 NFT projects. On Monday though the pseudonymous founder of the popular Azuki NFT project revealed his fraught history with abandoned projects, sending NFT Twitter into a frenzy and the collection’s floor price dropping. Not this was before the whole market tanked because of UST/LUNA. He might have timed it right because it didn’t get much coverage but then again why announce at all? Maybe he was already threatened to be doxed and just preemptively revealed.
I think that simply illustrates that this is a rapidly growing product [stable coins] and that there are risks to financial stability
US Treasury Secretary Janet Yellen
Close to announcing a recovery plan for $UST. Hang tight.
Do Kwon (10th May)
MicroStrategy has a $205M term loan and needs to maintain $410M as collateral. $MSTR has 115,109 BTC that it can pledge. If the price of #BTC falls below $3,562 the company could post some other collateral
Michael Saylor, CEO of MicroStrategy
In actual trial practice, the People’s Court has formed a unified opinion on the legal position of bitcoin, and identified it as virtual property <…> Bitcoin has a certain economic value and according to the attributes of property, the rule of law of property rights is applied for protection
Shanghai High People’s Court Ruling