Monday, November 28, 2022
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Markets Crash as LUNA Approves $1.5B in Bitcoin and UST Loans to Support Falling TerraUSD

  • TerraUSD stablecoin lost its peg to the dollar on Saturday
  • LUNA Foundation has approved a $1.5 billion Bitcoin and UST loan

Following the weekend loss of its peg to the dollar, Terra (UST) is being propped up by its backers.

As of Monday, TerraUSD, or UST, was trading at $0.74, well below the $1 level. Supporters led by Do Kwon, the founder of Terraform Labs, brokered $1.5 billion of loans in UST and Bitcoin to help support the digital currency.

Tether and USD Coin, two of the largest stablecoins, are backed by cash or cash equivalents. As an “algorithmic” stablecoin, TerraUSD’s peg to the dollar is maintained primarily through a market mechanism that involves another cryptocurrency, Luna. 

TerraUSD allows traders to profit from arbitrage opportunities when it falls below the value of a dollar. Whenever TerraUSD’s price drops below the dollar, the stablecoin holders can “burn” one TerraUSD for a dollar worth of Luna, thus making a profit and removing a TerraUSD from circulation, or they can do the opposite when the TerraUSD strengthens.

TerraUSD’s popularity has exploded over the past year, boosting Luna’s price to a high of $116 just last month.

Depegging from the US Dollar

But things suddenly fell apart over the weekend. Suddenly selling pressure caused TerraUSD to depeg from the dollar, dropping as low as 98.6 cents on Saturday, causing Luna’s price to crash. It then happened again on Monday, when TerraUSD dropped as low as 74.78 cents, Luna has dropped more than 50% since Friday.

There are indications that TerraUSD’s initial depegging was prompted by TerraUSD withdrawals from the Anchor Protocol, a decentralized finance lending market that allows TerraUSD depositors to earn high yields. Much of the 18.7 billion TerraUSD in circulation is locked up in Anchor, which saw its holdings of the stablecoin fall from $14 billion on Friday to under $11 billion by Monday.

Anchor Protocol

“Huge UST withdrawals from Anchor Protocol on Saturday demonstrated the fragility of algorithmic stablecoin where its price, which is supposed to be pegged to the U.S. dollar, was depegged,” said Yuya Hasegawa, an analyst at the crypto exchange Bitbank, also noting the crash in Luna. “The selloff of the altcoin affected the price of Bitcoin.”

In a statement, the Luna Foundation Guard, which was created to protect Terra and counts Kwon among its leaders, said it was mobilizing to ensure market stability. Market makers, or trading firms, will be able to borrow $750 million worth of Bitcoin from the foundation to ensure the currency’s stability and liquidity. As market conditions begin to normalize, the group also said that it will loan 750 million TerraUSD for the purpose of accumulating more Bitcoin.

Algorithmic Stablecoin

Several experts have raised concerns about Terra and other algorithmic stablecoins, raising concerns about how their market mechanisms could pose a risk to crypto in general.

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Do Kwon, Founder of Terra

Kwon, Terra’s founder, implied support for the theory that the stablecoin was depegged by a coordinated attack over the weekend. This narrative is widely circulating within the crypto community.

It may not be a “death spiral” that could cause greater destruction yet, but TerraUSD’s loss of a few cents from the dollar has already rattled the crypto market.

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