Perspective on Risk - Quick Crypto Note
Some quick info on Luna, TerraUSD (UST) and Coinbase. Terra is an ‘algorithmic stablecoin’ and Luna is in a way its partner. It’s imploded.
I’ll try and keep it very short.
Crypto’s Audacious Algorithmic Stablecoin Experiment Crumbles (Bloomberg)
[A]lgorithmic stablecoins attempt to hold their value through a combination of instructions encoded in software programs and active treasury management. UST -- which functions in tandem with a related token, Luna -- is the most popular and controversial of these kinds of tokens.
But over the weekend, all of those mechanisms stopped working and UST lost its dollar peg, while Luna also slid in value.
Matt Levine has a fine primer Terra Flops (Bloomberg)
The algorithm just lets people exchange Terra for Luna.
If people decide to dump their Terras — “wait,” you say, “there’s an algorithm; the price of Terra can’t go down.” If people decide to dump their Terras, then the price of Terra goes down from $1 to like $0.97, and arbitrageurs step in, buy Terras for $0.97 and exchange them for $1 worth of Luna.
Yeah. Well. The problem is that if people lose confidence in this system, they decide to dump both Lunas and Terras. Someone sells some Terras. Arbitrageurs step in, buy Terra for $0.99, and exchange it for $1 worth of Luna. Luna is at, say, $40, so each Terra gets you 0.025 Luna. Then the arbitrageurs sell their 0.025 Luna in the market, which drives down the price of Luna, which is falling anyway. Someone else sells some Terras, but now Luna is at $20, so each Terra gets 0.05 Luna, which arbitrageurs sell, and now Luna is at $10, so each Terra gets you 0.10 Luna, which then get sold, so Luna goes to $5, so each Terra gets you 0.2 Luna, etc. There is no natural stopping point for this process because Luna is just a thing you made up, and because it represents essentially confidence in your ecosystem, and as the price of Luna crashes that confidence ebbs away.
So basically a run.
The technical term for this is a “ death spiral.”
Terra/Luna was the #8 cryptocurrency with a total market value of $29 billion when its price was ~$86. I believe it was the largest ‘algorithmic stablecoin.’ For scale, Bitcoin (BTC) had a market capitalization of $708 billion.1
$COIN Disclosure
Ummm. Shouldn’t customer funds be in segregated accounts?
Move along, says Coinbase’s Armstrong
Move along, says Coinbase’s Armstrong (FT)
The reason for the disclosure, according to Armstrong, was a new SEC requirement on disclosures for public companies that hold crypto assets for third parties. He stressed that customers had strong legal protections — albeit ones that haven’t actually been tested in a court — but apologized to retail customers for not updating their terms to reflect the changes.
I have no idea how true this is.
BIS Paper on stablecoins
Stablecoins: risks, potential and regulation
What’s Next?
Keep your eye on Tether (USDT) and USD Coin (USDC). These are ‘traditional stablecoins’ that are pegged to the dollar and reportedly ‘backed by fully reserved assets or those with “equivalent fair value” and those assets are held in accounts with regulated U.S. institutions.’ 2
12 most popular types of cryptocurrency (Bankrate.com)
Ibid.