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What happened to Terra?

The past week has been a Terra-ble week. Terra Luna has declined more than 99.99% in price. Trading of the Luna token was suspended over the weekend following global exchanges halted trading of the asset. As of Monday morning, trading has been re-enabled on the EasyCrypto platform.


What you need to know🤓

Luna, the native cryptocurrency of the Terra blockchain, crashed following a malfunction of the main stablecoin on the Terra network – TerraUSD (UST). Namely, the UST token fell off its peg, rendering it unstable and unlinked to the US dollar. In other words, the UST stablecoin became the UST unstable coin which effectively jeopardised the integrity of the Terra protocol.

A deeper dive

Terra’s UST stablecoin differs from traditional stablecoins such as Tether (USDT) and USDCoin (USDC) because it employs a completely decentralized peg to the US dollar. Whereas the management keeping USDT and USDC pegged to the dollar are managed by a centralized organization, UST purported to hold its value based on an algorithm that automatically strikes a balance between the stablecoin and a partner coin.

The system relied on traders and investors burning or creating tokens for profit to maintain its peg to the U.S. dollar. This process worked through UST’s pairing with its sister cryptocurrency, Luna. Every time a UST token was minted, the equivalent of $1 in Luna was burned, and vice versa. So, when the price of UST dropped below $1, traders were economically incentivized to burn UST, or remove it from circulation, and receive Luna tokens at a discounted rate. Because there was less UST changing digital hands, the price should have theoretically gone up toward $1 again, maintaining the peg. However, this did not happen.

What is burning

The root of the problem seemed to be in the crypto market, as UST deposits in Anchor fell from $14 billion to $11.2 billion over the weekend. Though UST touted its decentralized nature, the majority of the capital underpinning the protocol resided from a single source. As UST remained off its peg, a panic sell-off gradually started to ensue which compromised the buy/sell trading process needed for stability.

Before you buy🤔

“Buying the dip” is not always a good investment strategy. A “bounce back” is not guaranteed. As the saying goes, be careful not to catch the falling knife.

Before investing in any crypto-asset, ensure that you have considered the following questions:

  • Am I comfortable with the level of risk?

  • Do I fully understand the investment being offered?

  • Am I protected if things go wrong?

  • Are my investments regulated?

  • Should I get financial advice?

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