The "UST Defense War" has begun? Can Terra cope with a new round of confidence crisis?

Starting from May 8, rumors of "UST decoupling" began to ferment in the market. The severity of the situation can be seen from the UST stablecoin exchange pairs of centralized CEX:

The quote of UST against USDT on Binance was close to 0.98 at one point, and all the UST on the lending market was sold out. With the spread of panic, UST and LUNA seemed to have faced unprecedented new challenges.

Terra Analytics data shows that the circulation supply of LUNA increased by 957,201 on May 8, reaching a total of 91.357 million, setting a record for the single-day increase in LUNA circulation supply since April 8.

Luna and UST dual peg mechanism

The core design idea of ​​the Terra ecosystem is to expand the usage scenarios and payment needs of the stablecoin UST, and the operation of UST adopts a dual-token design:

Luna, a token for governance, staking, and verification; UST, a stablecoin pegged to the native US dollar.

Simply put, every time a UST is minted, one dollar worth of LUNA must be burned, and LUNA helps maintain the peg between UST and the dollar through an arbitrage mechanism:

Whenever UST exhange is above the peg, users can send $1 worth of LUNA to the system and receive 1 UST; conversely, when UST exhange is below the peg, users can send $1 worth of UST to the system to receive $1 worth of LUNA.

In both cases, users are incentivized to engage in arbitrage, thereby helping to maintain UST’s peg to the U.S. dollar. This dual-token arbitrage stablecoin design and typical over-collateralization requirements make it very easy for tragic large-scale liquidation events to occur when the crypto market experiences severe volatility.

Previously, during the "May 19" crash in 2021, UST 's price "de-anchored" due to spiral liquidation, and at one point it even de-anchored by more than 10%, almost leading to a collapse of confidence and a vicious cycle.

Whether it was the ETH stampede and liquidation on "3.12" in 2020 or the ETH "queue shooting" on "5.19" in 2021, it verified the huge destructiveness of the worst possible scenario in this extreme situation.

This is also a test that algorithmic stablecoins can hardly avoid . Therefore, under extreme market conditions, the stability of prices relative to the overall market is an inevitable and important growth test for algorithmic stablecoins such as UST. It is also a sign that the project is maturing and has sufficient anti-fragility.

Data-based risks: At least from a data perspective, UST has reached its most critical moment , even far exceeding the "5.19" de-anchoring crisis in 2021.

The risk of an inversion between UST market value and LUNA market value

The main reason is the risk of an inverted relationship between the market value of UST and the market value of LUNA: previously, the market value of LUNA has always been much higher than that of UST. This means that when LUNA falls, sufficient liquidation space will generally be reserved to avoid the extreme situation of insolvency, thereby preventing a death stampede after a collapse of confidence.

However, the circulation of UST has soared rapidly in the past six months, exceeding US$18.7 billion as of May 9, an increase of more than 11% in the past 30 days.

This puts it in a delicate and embarrassing situation - Luna's current market value is US$22.4 billion, and UST's circulating market value is US$18.6 billion. If LUNA's secondary market price continues to fall, UST's circulating market value may exceed Luna.

Calculated according to the corresponding price, that is, if Luna falls below US$55, the circulating market value of UST will exceed that of Luna, which will most likely lead to extreme panic in the market and trigger a "death spiral".

UST flight sentiment exacerbates the "stampede".

Confidence is more important than gold, especially for algorithmic stablecoins like UST that rely on the ecosystem to grow.

However, the net outflow of UST in Anchor was about US$2.3 billion in the past two days, including an outflow of 1.3 billion UST on May 7, setting a new single-day high.

Compared with the peak of US$12.7 billion on May 5, the current UST savings in Anchor have fallen by nearly 20%, triggering widespread panic among investors about UST de-anchoring . The redemption wave has further increased the risk of stampede.

Anchor has insufficient reserves.

Anchor Protocol's current total daily expenditure is approximately US$7.05 million, total revenue is approximately US$2.15 million, and net expenditure is approximately US$4.9 million. At the same time, Anchor has US$180 million in reserves, which is expected to cover 35 days of expenditure needs.

What are the toughness of UST?

The confidence in the development of UST and Terra ecology is basically supported by the Luna-ust anchoring mechanism based on Anchor.

In the best case, it can maintain a scale of 1-2 billion, but the current problem is that the current circulation volume of UST is as high as 19 billion.

• Curve pool support

Therefore, LUNA has also turned its attention to Curve in an attempt to control the "coinage rights" in the crypto world. The most direct one is its 4pool solution - a new Curve liquidity pool consisting of UST, FRAX, USDC, and USDT.

In this way, with the help of Curve, the coinage market, a hook guarantee is provided for extreme situations:

veCrv ensures the stability of liquidity. When large-scale asset exchange actually occurs, there will be no liquidity flight. veCrv can be used as a governance tool for re-pegging after decoupling. Billions of assets can be re-pegged with a few million US dollars, which is fundamentally impossible in uni.

However, this construction had just begun when it encountered this impact. UST only had about US$500 million in liquidity on Curve, but had tens of billions of dollars in deposits on Anchor.

• Adjustment of Anchor Model

UST deposits on Anchor are a double-edged sword that determines the life and death of the Terra ecosystem.

On March 24, Anchor Protocol’s proposal to “adjust the yield to a semi-dynamic interest rate based on fluctuations in yield reserves” was passed.

Starting this week in May, its interest rate has been reduced from 19.5% to 18%. Thereafter, the Anchor Earn interest rate will be dynamically adjusted by up to 1.5% every month based on the appreciation or depreciation of the earnings reserve, with a minimum APY of 15% and a maximum APY of 20%.

At the same time, at the end of April, Terraform Labs protocol researchers issued a proposal suggesting that Anchor Protocol introduce the veANC model. The latest news on May 7 is that Anchor's revenue and governance platform Helm Protocol is about to be launched. Users can deposit ANC into Helm to obtain veANC's derivative Token HELM.

In addition, Anchor has also gradually added AVAX, ATOM, and SOL as collateral for lending. Considering the generally slow progress of the Terra ecosystem, Anchor's efficiency is already in the process of self-emergency firefighting.

• LFG's Bitcoin reserves

As of now, Luna Foundation Guard holds a total of approximately $3.5 billion worth of Bitcoin reserves, which are designed for use in extreme situations - only used to rescue the market in emergency situations, and only when the LUNA stabilization mechanism fails, the emergency reserves will be used:

This means that in the extreme case where UST is sold in large quantities and the price of LUNA falls sharply, Bitcoin, as a foreign exchange reserve with low correlation with the Terra economy, adds a policy tool for Terra to intervene in the exchange rate (maintaining the peg with the US dollar).

Terra founder Do Kwon also recently stated that the guarantee mechanism for LFG's Bitcoin reserves against UST will be deployed in a few weeks. Currently, the Astroport team is implementing the design parameters of Jump Trading on Agora.

summary

As an outlier stablecoin that has skyrocketed in the past six months and whose market value is quickly approaching 20 billion US dollars, UST's "depegging" test this time will far exceed "May 19" in terms of its own understanding and possible spillover influence.

Regardless of the final outcome, UST is destined to leave a significant mark in the battle for the Holy Grail of stablecoins.