ViaBTC Capital | LUNA’s Crash

Timeline of the crash:

– In the early hours of May 8th, in preparation for the 4Crv pool, the Singapore-based non-profit Luna Foundation Guard (LFG), which maintains the Terra network, removed $150 million worth of UST from the UST-3Crv pool. At this point, the pool’s TVL is around $700 million. In other words, draining the pool would only cost about $300 million.

– To maintain liquidity balance in the UST-3Crv pool, LFG removed another $100 million worth of UST from the pool.

——On the evening of May 8, the Twitter whale warning account WhaleTrades began to frantically “ringing the alarm bell”: there was a tweet that sold millions of dollars worth of UST every hour.

– On the morning of May 10th, Jump Trading and LFG may have sensed the problem and stopped selling their Bitcoin holdings in support of the UST peg, letting things go. As a result, UST plummeted all the way to $0.6.

– On May 11, UST appeared to be shorted by Soros-style short sellers and plummeted to as low as $0.2998 after several rounds of selling (source: CMC).

It was a terrible day on May 11th: it seems that there were short sellers deliberately shorting UST and LUNA:

– When liquidity was withdrawn from the UST-3Crv pool as a reserve for the 4Crv pool, a wallet dumped $350 million worth of UST on Curve, making UST lose its peg to the U.S. dollar. In response, LFG sold BTC to keep the peg, and short sellers dumped the remaining UST to Binance.

– UST is severely decoupled, followed by UST. LFG then came to the rescue and planned to lend a large amount of BTC, but the result was that BTC plummeted. Since new LUNA is minted by burning UST, the supply of LUNA instead increases, causing its downturn.

– Profits from short BTC and LUNA short positions for short sellers are estimated to exceed $1 billion, and costs, mainly UST dumping, are estimated to be within $200 million.

Impact on the LUNA Ecosystem

Considering the close relationship between projects in the Terra ecosystem and LUNA and UST, as well as the reinvestment and profits of DeFi LEGO, the decoupling of UST has dealt a heavy blow to Staking, DeFi, lending, and margin of LUNA margin and UST margin, as well as other protocols and price. To make matters worse, it even directly triggered the liquidation of the protocol, pushing LUNA and UST into a secondary death spiral.

1. Anchor

As a decentralized savings protocol based on Terra ecology, Anchor has a stable APY of 20%, which is its biggest feature.

Affected by the UST decoupling, Anchor’s APY remained at 18.9%, but its total deposits plummeted to $3.99 billion from $14 billion last Friday, as Anchor’s Dashboard shows.

Complementing the Anchor and Terra ecosystems, Orion.Money aims to facilitate the conversion of other stablecoins such as USDT and DAI to UST for the savings benefits of the Anchor ecosystem. Specifically, investors hold ORION and enjoy decent returns at 10%, 15% and 20% APY. Stablecoin collateralization on the Orion protocol dropped by more than 50% as UST decoupled.

2. Mirror

Synthetic assets in Mirror are all minted with UST as the primary collateral to reflect various financial assets such as stocks and ETFs. Therefore, any investment demand for US stock synthetic assets in Mirror will eventually translate into demand for UST, which creates the most important usage scenario for this stablecoin, providing value to UST and LUNA.

The TVL of the Terra chain on Mirror fell from $600 million to $240 million, a drop of 60%.

3. Lido and Node Staking

Lido, the largest liquid staking protocol, launched Terra’s Liquid Staking program as early as last year, releasing LUNA pledged by nodes in the Terra ecosystem. LUNA, which is betting on Lido, also saw a drop of about 60% and a frenzied sell-off. As a result, on May 11 alone, the TVL of Terra’s Lido holdings fell by 80%, a staggering 91% drop for seven consecutive days.

On the other hand, node staking directly affects the verification and security of the Terra network. Currently, we have not observed a large number of node escapes. Considering the UST decoupling, more and more LUNA will be in circulation, pushing the supply towards 1 billion.

4. Abracadabra

Abracadabra launched the Degenbox UST strategy. Users deposit UST tokens into the cauldron to borrow MIM or take advantage of their positions, greatly increasing returns. This strategy is essentially risk-free as long as UST remains at $1. However, once UST is decoupled, users are at risk of being liquidated if their collateral devalues.

Currently, the Abracadabra protocol is moving all UST from the UST strategy on Terra back to Ethereum in response to current market conditions. It focuses more on liquidity and potential liquidations.

Relevant Reserve Pool

Regarding the death spiral faced by algorithmic stablecoins earlier this year, LFG created a Bitcoin and AVAX reserve pool to support the value peg of the stablecoin UST.

Taking BTC as an example, let’s explore this mechanism in depth: LFG originally wanted to use BTC to ease inflationary pressures. When traders convert UST to LUNA on-chain, the new supply of LUNA will be reduced, thus controlling the death spiral and making the entire system more risk-resistant. According to the on-chain mechanism proposed by Jump, 1 UST can be exchanged for BTC worth $0.98. If the price of UST traded off-chain is below $0.98, traders can buy bitcoin at a discount from the reserve. This variant of the AMM mechanism is called a “defender”. The best place in the market to buy Bitcoin until UST’s delivery price exceeds $0.98 is its reserve pool. This mechanism provides hard support for UST’s hooking.

Neither BTC nor AVAX will be used as collateral. In fact, given the fragility of algorithmic stablecoins, such a new mechanism aimed at pegging stablecoins to more stable assets does hedge the sell-off to some extent. Despite its clever design, UST/LUNA is temporarily unable to exchange bitcoins on-chain. To make matters worse, LUNA holders suffered a collapse of confidence and a death spiral as UST struggled to maintain its $1 peg.

LFG was forced to put in a lot of Bitcoin to back the coin. According to the report, LFG has lent $1.3 billion in BTC (28,205 bitcoins) to trading firms to keep UST pegged to the price. But that’s just a drop in the bucket. Rising interest rates and shrinking balance sheets announced on May 10 made things worse. With the influx of established financial institutions into the cryptocurrency market in recent years, Bitcoin is one step closer to the U.S. stock market, with Bitcoin falling below $30,000 due to the U.S. stock market crash and LFG’s massive bitcoin lending.

AVAX is another ecosystem closely related to Terra. Do Kwon announced on April 8 that AVAX will be used to provide reserves for UST, and crypto users will be able to mint UST on Avalanche. This is an attempt to add more UST use cases through many AVAX supported projects. At the same time, the Avalanche ecosystem also needs its own stablecoin, which is why the two hit it off. However, this seemingly perfect partnership has its pitfalls. The working principle of AVAX and UST, similar to the BTC we mentioned earlier, is to form a virtual AMM pool. Users who earn UST on Avalanche’s C chain can exchange AVAX worth 1 USD for UST worth 1 USD, Or exchange $1 for UST to AVAX for 99 cents. It should be noted that this asymmetric arbitrage design will only be exploited when UST falls.

Fortunately, currently AVAX cannot be used to mint UST directly. The AVAX reserve announced by Do Kwon covers only the 100 million AVAX acquired by LFG, which will be processed over-the-counter (OTC) through the Avalanche Foundation. Details of the transaction, such as whether there is any lock-up period and the exact price, are still not known to the public. Compared with LUNA’s nearly 99% plunge, AVAX, which fell more than 20% due to the impact of the overall market, was not greatly affected. At the same time, the circuit breaker also sounded the alarm for the entire public chain field. Do all ecosystems need stablecoins? NEAR launched the ecosystem-based stablecoin USN in its infancy, which was more affected than AVAX, and the loss of market confidence led to the decline.

Other Algorithmic Stablecoins

The crisis of trust in stablecoins caused by the collapse of UST has extended to other stablecoin protocols, but this is also a good opportunity to test users’ confidence in other protocols and their underlying mechanisms.

Decentralized stablecoins (except fiat-backed USDC, USDT, TUSD, etc.) did not observe any signs of large-scale decoupling before and after the UST crash (the decoupling threshold was set to 5%). One exception was the HARD protocol’s USDX, which fell about 8%. Even some collateral like FEI and FRAX have not suffered severe decoupling.

Unfortunately, UST undermines market confidence in stablecoins, especially algorithmic stablecoins and stablecoin protocols that are not fully collateralized, such as FXS and SPELL.


News that LUNA’s crash may have been orchestrated by HF Citadel Securities suggests that the famous Wall Street player was shorting the market by lending 100,000 bitcoins, breaking LUNA’s peg mechanism and leading to a vicious circle.

Do Kwon first sought help and tried to raise $1 billion by selling LUNA at a 50 percent discount, but the offer was rejected.

He then announced Proposition 1164, which passed with 35 votes in favor, with 4 abstentions. This proposal is mainly used to accelerate the burning of UST. More specifically, it increased SDR’s base pool from $50 million to $100 million and reduced pool recovery blocks from 36 to 18, which would increase UST’s minting power from $293 million to $1.2 billion Dollar.

Much of the traditional capital of many major Korean companies is deposited in the form of UST with Terra, a Korean company focused on fintech and payments. Such assets will have legal consequences. UST involves more money from the non-crypto community than LUNA, which primarily affects crypto investors. In contrast, such funds have greater responsibilities and stricter laws. If asked to choose only one of the two, LUNA would definitely be waived to ensure the value of UST. If there is no outside funding to fall back on, the only way is to keep minting LUNA to burn UST and convert LUNA into a more valuable asset (BTC/USDT), thus stabilizing the UST peg. Stabilizing the UST peg by continuously mining the value of LUNA is the only viable way to save UST. Therefore, LUNA prices may continue to fall until the tragedy ends with the help of external funds.

In short, LUNA has fallen off its pedestal.

At the time of writing, LUNA is priced at $0.8 and UST is priced at $0.68.

*The above content is not intended as any investment advice.

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