A selloff in a cryptocurrency that was supposed to be pegged to $1 accelerated on Wednesday, briefly sending the price down to less than a quarter of that level.
TerraUSD was trading at just 23 cents on Wednesday, according to data from CoinDesk. As of 8:53 a.m. ET, it had partially recovered to around 30 cents in volatile trading.
As a stablecoin, this type of cryptocurrency had found favor with traders because it was the only part of the crypto universe known for its stability. While the most popular stablecoins hold their ground with assets that include dollar-denominated debt and cash, TerraUSD is a so-called algorithmic stablecoin that relies on financial engineering to maintain its connection to the dollar.
The breaking of TerraUSD’s peg began over the weekend with a series of large withdrawals by TerraUSD from the Anchor Protocol, a type of decentralized bank for crypto investors.
The Anchor Protocol is based on the technology of the same Terra blockchain network that TerraUSD is based on. It has been a key factor in the stablecoin’s growth over the past few months, allowing crypto investors to earn returns of nearly 20% annually by lending out their TerraUSD holdings.
At the same time, TerraUSD was also sold for other stablecoins backed by traditional assets through various liquidity pools that help peg stability, as well as cryptocurrency exchanges. The sudden outflow of funds scared some traders who started selling TerraUSD and its sister token Luna. Before its peg was broken, TerraUSD was the third largest stablecoin with a total market value of $18 billion.
TerraUSD’s drop to 23 cents around 3:30 a.m. ET marked a 70% drop from its value 24 hours earlier, according to CoinDesk.
Even as TerraUSD regained some value after hitting its low, Luna continued to fall. The token was down 97% over the previous 24 hours as of 8:53 a.m. ET, trading at 99 cents.
“I understand the last 72 hours have been extremely tough for all of you – know that I am committed to working with each and every one of you to get through this crisis and we will find our way out of it,” Do Kwon wrote from the South Korean developer who created TerraUSD, on Twitter on Wednesday.
Stablecoins have surged in popularity over the past two years and now act as the grease that turns the cogs of the cryptocurrency ecosystem. Traders prefer to buy coins like bitcoin, ether, and dogecoin with digital assets pegged to the dollar because the price only moves to one side when buying or selling. They also allow for quick trading without the settlement times associated with government-issued currencies, which can take days.
Bitcoin price fell to $29,460.20 on Wednesday, down 4.8% from its level as of 5:00 p.m. ET on Tuesday. In the past week alone, it’s lost about 25% of its value.
Historically, TerraUSD maintained its $1 price by relying on traders to act as a backstop. If it fell below the peg, traders would “burn” the stablecoin — take it out of circulation — by exchanging TerraUSD for $1 worth of new Luna units. This action reduced TerraUSD’s supply and increased its price.
Conversely, if the value of TerraUSD surged above $1, traders could burn Luna and create new TerraUSD, increasing the stablecoin supply and lowering the price back towards $1.
Such a model has drawn criticism for relying on people’s collective willingness to support cryptocurrency. Without this, the stablecoin can quickly descend into what industry participants have described as a “death spiral.”
Martin Hiesboeck, head of blockchain and crypto research at digital money platform Uphold, compared what happened with TerraUSD and Luna to a bank run. “People don’t trust that anymore, they run to the exit,” he said.
Mr. Kwon, the creator of TerraUSD, was also a co-founder of Luna Foundation Guard, a non-profit organization that has helped support TerraUSD and keep its bond.
Earlier this week the Foundation said it loaned $750 million of bitcoin to trading companies to protect the stablecoin peg. Blockchain records of the foundation’s wallet show that it no longer holds any bitcoins in this account.
The previous day, the value of TerraUSD had recovered to around 90 cents after falling to 61 cents, while Luna had also recovered after the plunge.
Bitcoin’s volatility has limited its acceptance for payments, so entrepreneurs have created stablecoins: cryptocurrencies tied to assets like the US dollar. But the recent settlement of an investigation into the most popular stablecoin, Tether, shows the need for transparency in the growing industry. Photo illustration: Sharon Shi/WSJ
write to Caitlin Ostroff at [email protected] and Elaine Yu at [email protected]
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