Our View On The Terra Network Crash

Dear all,

Today we would like to share our view and perspective on the recent, tragic events that have affected the entire crypto market and especially all the participants in the Terra Network, whether they invested in the Luna token or in its stable coin.

It is quite complicated to unfold the entire story, but we will give it a try. A few things first.

• We have been among the first investors in Terra, having invested in February 2019, and our decision was based on two key factors:

1. the market needed a decentralized stable coin (and still does); and
2. the brilliant founding team who was behind the project.

• We knew that the vision was hard to achieve (very high risk in our rating system), but we believed the plan was very well articulated and made sense at the time (we still believe that an algorithmic stable coin will succeed at some point in the future).
• More recently, we started having doubts about the Anchor’s sustainability in the medium term and on the decision of the founders to create the Luna Foundation Guard and use BTC as a safety mechanism for the peg protection as a collateral (which the market might have perceived as a sign of limited faith in the strength of their own pegging mechanism).

Having said that, we never thought, as multiple users are suggesting, that this was a Ponzi scheme, and still believe it is not.

It was a very ambitious project, almost an experiment, which worked until it became so big it became a target for smart attackers — i.e. hedge funds — powerful enough to bring to their knees almost anybody (Soros, the famous financier, with a similar attack put to their knees two large European Country currencies in the 80s\90s: UK and Italy). Clearly, they spotted an opportunity to exploit the protocol, which should have not been there to grab. But Luna had grown too large too fast and, while the founders where trying to implement additional measures to protect the platform, the massive attack — very sophisticated — struck like a thunderstorm. And the rest is now history.

In the last few months, Luna has constantly been under the spotlight. The 20% interest rate on UST was clearly way above market comparables and unsustainable in the medium term, with TerraForm Labs replenishing the yield reserve multiple times. There were other signals that something was not going in the right direction: feuds on Twitter between Do Kwon and others, a partisanerie which had lunatics on one side and detractors on the other.

These were all strong signals that additional care was needed.

Talking about the founders, we have never thought that Do Kwon was animated by anything but a futuristic vision, extremely high ambitions, and the mission to replace the centralized stable coin with a decentralized alternative. This perfectly aligns with the mantra of decentralization, which is one of the pillars of the Blockchain.

Did the founders make mistakes? Yes, they did.

Were they too aggressive in their quest to grow? Yes, they were.

Did they feel unbeatable? Yes they did.

Did they conceive their system as a Ponzi scheme? We don’t believe so.

Did they stop believing in the project? We believe they never did. And not only them: there were dozens of teams — inside the project, and among builders and investors — of brilliant minds that have worked to build the ecosystem of Terra, advising Do Kwon, supporting this “dream”.

The founders and the management should have spotted the critical point of failures earlier, and get safety lines and protection from those, in any market conditions. They should have been more open to critics and willing to take into consideration and analyze opposing views.

But it is not an easy task, when you feel you’re on top of the World.

In conclusion, in our view all VC investors believed that Terra had built an unbreakable decentralized stable coin which would have overcome USDT in market cap, delivering outsized returns to all its supporters. Lots of them lost lots of money, while others sold part of their stake months ago, not necessarily because they did not believe in the project, but in order to re-balance the risk in their portfolio.

Do Kwon commitment is not questionable. But his big mistake was that, while he was feeling the big fish in the pond, he was still a small fish compared to the power and the deep pockets of the traditional Financial World. Which will continue to attack — now that the market is large enough — when they spot weaknesses on protocols large enough to ensure them sizable returns.

We, on the other hand, still believe that, just as Bitcoin has been able to create a “new decentralized money”, some other teams will learn from the mistakes of these days and build in the future a stronger, decentralized, algorithmic stable coin.

Fabio Pezzotti