Terra (LUNA) and TerraUSD (UST) have undergone a tumultuous crash in the last few days, with LUNA dropping as low as 98% and UST down 70%. While the markets weren’t thriving before the crash, all hell has broken loose as the Terra ecosystem collapses.
What seemed to come out of nowhere, Terra LUNA gained 15,000% in a year and suddenly featured in the top 10 biggest cryptocurrencies by market cap causing the world to take notice. The platform, Terra, is a blockchain protocol for algorithmic stablecoins, allowing coins to maintain their price peg through a set of algorithms instead of utilizing an underlying asset. Through burning LUNA, the platform’s native coin, users can mint the associated underlying asset.
The Terra ecosystem quickly grew, as did the LUNA price. In just a year, the cryptocurrency went from trading at $0.50 to $100. At the time, market insiders were skeptical that this growth was sustainable, so much so that one crypto trader going by the name of “Sensei Algod” placed a $1,000,000 bet that the cryptocurrency would be trading below $88 on 14 March 2023.
With an ecosystem of products requiring both LUNA and the stablecoin UST, the project saw incredible gains. Until it all came crashing down.
Since LUNA achieved its all time high of $119 in April, the cryptocurrency has lost 100% of its value in just a month.
In a matter of days, the Terra LUNA price has crashed from trading at $85 a week ago to being valued at $0.10 at the time of writing. The former top 10 biggest cryptocurrency has lost 98% of its value and dropped to ranking at 92.
UST’s descent started on Monday, 9 May when the stablecoin, intended to be pegged to the US dollar on a 1:1 basis, dropped below the $1 mark. By Tuesday the price has dropped 32%. After a short recovery that same day to the $0.90 region, the price again crashed on Wednesday, this time dropping to $0.70. By Wednesday, 11 May the price had fallen to lows of $0.30. With a mild recovery, the UST price was trading at $0.50 at the time of writing.
This crash has been fueled by a vicious cycle of investors losing faith in the project and the subsequent pulling of capital. When the UST price fell below $1 (a huge red flag when it comes to stablecoins), investors grew concerned and pulled their capital from the Anchor Protocol run by the project and rushed to sell their UST on exchanges.
The Anchor Protocol is a DeFi project on the Terra network which promised investors 20% APY for depositing UST on the platform. Investors pulling their capital caused the Anchor Protocol to lose $7.5 billion in just three days. The drop continues.
Both coins form part of the Terra ecosystem, one providing a stablecoin pegged to the US dollar and the other facilitating the smart contracts working behind the scenes to ensure that the coin retains its peg.
While most stablecoins hold fiat currencies that they’re pegged to in reserves (as is the case for both USDT and USDC), UST is an algorithmic stablecoin that maintains its value based on smart contracts that manage the mint/burn mechanisms of UST and LUNA to ensure the price remains consistent.
When the LUNA market started crashing, the cryptocurrency’s market cap dropped below that of UST, indicating that the project did not hold the necessary reserves to support the stablecoin’s value. This led to a loss in confidence in the project as many investors pulled their capital and liquidated leveraged positions, only causing the cryptocurrency to crash further.
South Korean crypto exchange UpBit has listed Terra LUNA as a “cautionary item” while Bithump has flagged it as an “investment warning item”. Several exchanges have also halted withdrawals of LUNA and UST.
The sudden collapse of the LUNA price mirrors a similar event that took place last year involving TITAN and IRON. IRON, an algorithmic stablecoin supported by TITAN, suddenly unpegged dropping the price to zero causing a rush to liquidate any associated positions. This collapse later became classified as the first large-scale “crypto bank run”. Analysts predict that LUNA is heading in the same death spiral.
As the two Terra tokens continue to drop in price, the key takeaway is to always do your own research and not follow unsubstantiated trends. When building a diversified portfolio, invest in projects that have plausible use cases and are credited as being reliable, consistent and trustworthy. While the Terra collapse has caused ripples throughout the rest of the market, rest assured that the crypto market will recover, as it has consistently done throughout the years.