Bitcoin is now down 50% from its November all-time highs.Arturo Widak | Nurfoto | fake images
investors in bitcoin are in panic mode as the controversial terraUSD stablecoin moves further away from its predicted value of $1.
TerraUSD, or UST, dipped below 70 cents for the first time on Monday night as holders continued to flee the token in what some described as a “bank run.” The token fell as low as 62 cents before regaining ground to trade at 90 cents on Tuesday, according to data from Coinbase.
Created by Singapore-based Terraform Labs in 2018, UST is what is known as an “algorithmic” stablecoin. Part of the Terra blockchain project, it is intended to track the value of the dollar, like tether and USDC.
However, unlike those cryptocurrencies, Terra does not hold cash or other assets in reserve to back its token. Instead, it uses a complex combination of code, along with a sister token called luna, to stabilize prices.
It is important for bitcoin investors, as the Luna Foundation Guard, an organization that supports the Terra project, has billions of dollars worth of bitcoin that could be dumped on the market at any time.
“Every professional cryptocurrency investor has an eye on UST today, seeing if it can hold its peg to the dollar,” said Matt Hougan, chief investment officer at Bitwise Asset Management. “Clearly, there is significant risk in the market.”
In simple terms, the Terra protocol destroy and create new UST and moon units to adjust the offer. When the price of UST falls below the dollar, it can be taken out of circulation and exchanged for moons, making UST more scarce in supply and increasing its price; at least, that’s how it should work in theory.
To further complicate matters, Terra creator Do Kwon bought $3.5 billion worth of bitcoin to provide a backstop for UST in times of crisis. The theory was that UST could eventually be redeemed for bitcoin instead of moon, but this has not been tested and has yet to be put into practice.
On Monday, the Kwon Moon Foundation Guard said it would lend $750 million in bitcoins to trading companies to “help protect the UST parity,” while another 750 million UST will be lent to buy more bitcoins “as market conditions normalize.”
In a follow-up tweet, the organization said it had withdrawn 37,000 bitcoins, worth more than $1 billion at current prices, to lend them out. “Very little” of the borrowed bitcoins has been spent, Luna Foundation Guard said, but “it is currently being used to buy” UST.
Several cryptocurrency investors are also concerned that the Luna Foundation Guard has sold, or will sell, a large portion of their bitcoin to prop up UST. Amidst all this uncertainty, the decline of UST has shocked the entire crypto market.
Bitcoin, the world’s largest digital currency, briefly fell below $30,000, reaching its lowest price since July 2021. At 7:00 am ET, bitcoin was trading at $31,324, down 5% in the last 24 hours. It is now down more than 50% from its all-time high in November.
Luna, the UST counterpart, has roughly halved in value in the last 24 hours. It was last traded at a price of $32.
Adding to the woes of UST holders, Binance, the largest crypto exchange by market volume, said Tuesday is temporarily suspending UST and luna withdrawals “due to a high volume of pending withdrawal transactions,” citing network congestion.
The firm said it would resume token withdrawals once the network stabilizes.
“I think the market is expecting some forced selling here from Terra and the reserve,” Coin Metrics co-founder Nic Carter told CNBC. “It’s a calamity but a long-awaited one. No algorithmic stablecoin has been successful and this one is no exception.”
He added that the problem with UST is that it is largely “backed by faith.”
“It’s not completely guaranteed, it’s certainly not completely backed by reserves,” he told CNBC. “It was really only backed by faith in the issuer effectively.”
Terraform Labs did not respond to multiple requests for comment.