Since its inception, cryptocurrency has always been a topic of debate among investors. Some believe that cryptocurrency and the decentralization of financial markets will be the future of money, while others believe that cryptocurrency is nothing more than an elaborate scam, a glorified form of money-making scheme. Ponzi that successfully attracted millions of unsuspecting victims.
But even with its many detractors, the cryptocurrency has still managed to make a name for itself in the market, as evidenced by the meteoric rise of Bitcoin and Ethereum. In 2021, Bitcoin managed to reach an all-time high of RM269,248.83 ($61,374.25), while Ethereum reached an all-time high of RM19,420.11 ($4,426.74).
This is why the crash of the LUNA cryptocurrency in May 2022 surprised so many people. Within two days, the price of LUNA fell from RM526.44 ($120) to RM0.088 ($0.02), a decline of 99%. In the following days, LUNA’s price managed to drop even further, reaching a low of RM0.0000049 ($0.00000112), before being completely written off.
So what happened?
But before we can discuss the crash, we must first talk about the origin of LUNA and how it rose to prominence in the market.
LUNA was first developed by the The Korean company Terraform Labsas a native token for Terra, their own self-developed blockchain.
LUNA, TerraUSD (UST) and the Terra blockchain are part of an algorithmic stablecoin that has worked to maintain its value.
A stablecoin is a type of cryptocurrency designed to hold stable value. How this is done varies by currency type. Some are pegged to existing fiat currency or are backed by physical assets used as collateral.
The setup was nothing new. Stablecoins were a thing since 2015, but LUNA has seen an unprecedented surge in the market, thanks in large part to the charisma of Do Kwon, the co-founder and CEO of Terraform Labs.
Do Kwon showed up on social media with a shameless swagger, going so far as to label LUNA critics as “poor people”who inspired an almost cult following on social media, showing unprecedented levels of loyalty and following towards Do Kwon.
At one point even billionaire Mike Novogratz got a tattoo of a wolf howling at the moon on his armsignifying his commitment to LUNA and UST.
Thanks to Do Kwon’s charismatic social media presence and the number of followers he garnered, investors crowded into the LUNA coin, giving LUNA and UST a combined net worth of $60 billion at some time.
In order for us to understand the fall of LUNA, we must first understand how LUNA, UST and Terra functioned. UST and LUNA are co-dependent on each other and exist within the Terra ecosystem. By design, users can always trade between LUNA and UST or vice versa, at a guaranteed price of $1.
Simply put, here’s how it works. The UST is pegged to the US dollar, which means it is designed to hold its value at $1. If the price of UST drops for any reason, a corresponding amount of LUNA will be withdrawn from circulation to stabilize the UST. Similarly, an increase in UST prices will cause LUNA to be removed to maintain parity.
This essentially manipulates the economy on the supply side to influence the price of the cryptocurrency.
So, for example, if UST reaches 0.99, a small amount of LUNA will be burned to stabilize UST, and if UST reaches 1.01, a small amount of UST will be burned to stabilize LUNA.
This $1 price is important because it means that, as explained above, if demand for UST rises and pushes its price above $1, LUNA holders can make a risk-free profit by trading $1 of LUNA to create a UST token.
In this process, a percentage of LUNA is burnt (permanently removed from circulation), and the rest is deposited in a community treasury. By burning LUNA, this process creates a scarcity of LUNA, and by trading it for UST, it will dilute the market and drive the price of UST down, to the $1 level.
This is how LUNA and UST are co-dependent on each other.
Well, that’s how it’s supposed to work. Until it doesn’t.
It all started on May 7, 2022, when $2 billion worth of UST was removed from the pegging protocol, which meant it was no longer staked, and hundreds of millions of that amount were quickly sold. Why this happened is still up for debate, but one thing is certain, it caused the price of UST to drop to $0.91. This caused more investors to panic and more to sell their UST causing the price to drop and drop further.
For LUNA holders, it was even worse as the falling UST quickly meant that LUNA also lost much of its value.
The crash continued until it was completely delisted.
Looking back, LUNA has always shown a lot of red flags. UST’s Anchor platform offered a 20% return, which is incredibly high compared to US government bonds, which yielded around 2%, and savings accounts, which yielded less than 1% return.
Analysts said it’s unsustainablebut thanks to Do Kwon’s charismatic presence and blind faith, investors kept putting more money into it.
The result? A historic crash that shook the entire cryptocurrency market. Subsequently, there was suicide reports due to the accident, and Do Kwon’s house has been invaded.
What can we learn from the LUNA crash
So now that we understand what LUNA and UST are, and what caused the crash, let’s now look at 4 things we can learn from the historic crash.
Never risk everything in one investment
One of the most important lessons to be learned from the accident is also one of the most obvious: never put all your eggs in one basket. The LUNA crash was followed by collapses of people who put everything they had into it, meaning they lost everything when it crashed.
Even the greatest projects can fail
One of the biggest appeals of LUNA is the fact that it was backed by a large number of big investors. As mentioned earlier, at one point the combined net worth of LUNA and UST reached US$60 billion.
However, even with all that financial support, it still crashed. This is why the second lesson you should learn from this is that even the biggest projects can fail and the investment risk should be spread over a wider basket of options.
Use the Stop Loss order to your advantage
One thing you should always remember is that exchanges are unreliable in times of crisis.
Global centralized exchanges often have tricks they use to not let money out of their system, such as;
- They suspend withdrawals.
- Their interface will not be responsive.
- They lock assets for certain periods.
It will then be difficult for you to unload your assets in times of crisis. So what should you do in times like these?
Use the Stop Loss order to your advantage. Set it so that your assets are automatically sold before you incur a loss.
So, in conclusion, the LUNA crash was a historic event, which everyone can learn from. Although the unprecedented crash may worry some people who are still very wary of cryptocurrency, there could still be a future in crypto investments.
However, as with other investments, careful research and risk management are important.
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