Do you know what happened with the Terra Luna coin? Mid-May 2022 marked a scary point for many cryptocurrency traders. Countless digital coins plunged to 2022 lows. Billions of dollars were lost. None more than the stablecoin Terra USD and its sister coin Luna. They are part of Singapore-based company Terraform Labs, led by CEO Mr. Do Kwon and co-founder Daniel Shin.
The company was formed in 2018. The founders were believed to be at the crash’s source earlier this month.
This isn’t the first time there has been a crypto crash, but this is the closest we’ve come to a specific coin getting wiped out.
Many investors spoke on social media platforms, especially the subreddit r/TerraLuna, about their losses and fear for their finances due to the collapse.
We need to understand the difference between cryptocurrencies and stablecoins to understand what happened. So, let’s shed some light on the subject.
Before we get into the TerraLabs story, which is Do Know and Daniel Shin? Kwon used to work for Microsoft and Apple.
Shin is the founder of payment company Chai, which has 2M users in South Korea, and the e-commerce website Ticket Monster (TMON).
Together, they created TerraLabs in 2018. What was the goal of the company? To become a leading e-commerce platform and decentralized finance (DeFi) service provider.
The platform has over 100 DeFi, Web 3.0, crypto, and NFT projects. One of the major projects is the stablecoin Terra/Luna.
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Stable Coin vs Cryptocurrency
What is the difference between a common crypto and a stablecoin? Let’s take Bitcoin or Ethereum as crypto examples.
They are mined and exchanged on various platforms. The coins are highly volatile, and almost anything can affect their price. When China made Bitcoin mining illegal, the price spiraled down.
When Elon Musk tweeted about Dogecoin, the price went to the moon. In some cases, to limit supply, there is a maximum quantity that can be mined.
On the other hand, stablecoins are supposed to remove volatility and major price swings—investors who want to use blockchain technology to remain anonymous while avoiding volatility use stablecoins.
To accomplish that, the value is pegged to an asset such as a currency, bond, or algorithm. For example, the biggest stablecoin is Tether.
It is pegged to the US Dollar 1-for-1 thanks to US short-term securities and other riskier assets such as commercial paper. So, theoretically, one Tether should always be worth USD 1.
Terra Luna Coin in Detail
TerraUSD’s case was pegged to an algorithm, and financial engineering techniques were used to remain pegged to the US dollar. Other variations of the coin are pegged to other currencies. It doesn’t sound very easy, and it is. However, it is done thanks to its sister coin, Luna. When Terra’s value exceeds $1, the algo burns Luna to create Terra USD. The supply of Luna drops and increases its price. This is what drives Luna’s price up.
Conversely, when Terra falls below $1, it is burned and exchanged for Luna. This drives Luna’s price down. Ultimately, users can use the coin as a payment method when converting it into its currency.
Terra has pegged to the currencies thanks to an algorithm, but what was it backed by? Mr. Kwon purchased $3.5B of Bitcoin in case of emergency. $1B of Bitcoin has since been lent out and is still missing. On May 9th, the price of Terra/Luna began to drop. Some described it as a Ponzi scheme; others claimed manipulation and fraud. What happened?
Terra Luna Coin Crash
In April this year, the Luna coin hit a high of $116. Since then, the price has slowly dropped. Then, on May 9th, the price started dropping much more quickly.
By May 12th, it was worth less than $1. As I am writing this, 1 Luna is worth 0.0001 USD. So it went from one of the most valuable cryptos with a market cap of $40B to almost nothing.
So, how did the price drop so quickly? During the weekend of May 7th, more than 90% of deposits from the Anchor platform were withdrawn.
Anchor was a crypto bank that held $14B of Terra USD. Some believe the sudden drop was due to a third party’s malicious attack on the coin. Investors reacted by selling their shares of coins.
There is only about $1.6B left. Interestingly enough, some are still buying large quantities, hoping it will go back up. Weeks after the drop, there still is no concrete answer about what happened. The algo couldn’t fix the issue of balancing both coins and even shut down twice.
Remember the $3.5B in Bitcoin? That reserve was largely depleted to help the coin. The sale of Bitcoin spread to other cryptos.
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Terra Luna Coin Revival
First, Kwon’s response was to inject 1B coins into the system to attempt a revival. This plan failed. Next, he proposed a plan to fork the existing blockchain. This means a second coin will be created with a few changes.
More Luna tokens will be added to compensate existing investors. However, these coins are almost worthless. The supply xTuple. Please think of this as printing money and distributing it to everyone. Inflation is created, and the money loses its value.
As for the remaining Bitcoin reserves, they are almost depleted. It seems that this coin is truly dead. Mr. Kwon is being investigated for his actions. Court documents show he dissolved TerraLabs days before the crash. His relevancy seems to be gone for good.
Once the price of Bitcoin dropped, other cryptos followed suit. Hundreds of billions of dollars of crypto value were shed that week. Many crypto fans lost faith in their favorite digital coin following the crash of Terra/Luna. However, many are beginning to realize it can happen to any coin.
Impact on Other Cryptocurrencies
What happens when billions of dollars are wiped out? Regulators come in. US legislators, both Democrats and Republicans, might soon decide on a plan of action. This isn’t the first or the last time a crypto asset fell apart.
It is still uncertain what legislation can be implemented to limit the danger of a crypto crash. Blockchain technology is made to be unregulated and untraceable. One of the possible outcomes can be the termination of many useless digital coins that have no value whatsoever.
In the worst-case scenario, many investors will lose faith in this industry, and billions will be wiped out. Some countries completely banned crypto transactions and mining. They might argue that the government should decide what’s best if investors aren’t willing to protect themselves and the economy,
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Crypto Stocks
Many crypto stocks have been heavily affected by this year’s selloff. Many coins are at a 12-month low and keep losing value every day. Since crypto stocks are heavily correlated with the performance of many coins, they are also suffering.
When we look at Coinbase (NASDAQ: COIN), they are currently at an all-time low. The platform also has a duty to its shareholders and users. I know performing due diligence on all the coins around isn’t easy. However, they can’t let anyone start a coin and take people’s money.
What about mining stocks? They are responsible for mining coins such as Bitcoin, Ethereum, etc. Unfortunately, they are also in free fall. When we look at Riot Blockchain (NASDAQ: RIOT), Hut8 Mining (NASDAQ: HUT), and others, their price is taking a serious hit.
Shitcoins
Believe it or not, when a coin is created with no use or objective, it is coined the term shitcoin. Special consideration to the founders of Useless Ethereum Token, TitCoin, TrumpCoin, PutinCoin, and my favorite, Bananacoin. The latter is pegged to the price of 1kg of bananas.
Final Thoughts
To conclude, I want to remind investors that cryptocurrencies are, in large part, a scam. If this example doesn’t change your mind, I don’t know what will. Their main use is to conduct anonymous transactions and make a quick buck on the stock market.
Until they are regulated, which is counterintuitive for their purpose, more negative than positive will happen. So, for those who went on the subreddit mentioned earlier and read some stories, please don’t invest your life’s work into the crypto you read two lines about.
If you do, set some limits, like for a stock. Then, follow a strategy and get out. Don’t be greedy.
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