10th May 2022 > > Stablecoins.

tl;dr

Stablecoins are not always stable.

Market Snap (at time of writing)

Market Wrap

Another painful session with an overnight low just below $30k. This is the lowest price point of 2022 meaning that all new buyers in this year still holding are now showing unrealised losses.

We are at less than 50% of the all-time high (ATH) set last November, which is a significant retracement. But those of us with long memories know that it can get worse – previous bear markets have led to capitulation and cycle lows around 80% lower than that cycle’s ATH.

Curious Cryptos’ Commentary – TerraUSD (UST)

UST is an algorithmic stablecoin hosted across several blockchains. Its native ecosystem is Terra powered by LUNA coins. If the price of UST goes above a dollar, the smart contract will print more UST theoretically driving the price back down, with the opposite process in place if the price goes below a dollar. At least that is the theory, but it isn’t difficult to spot the flaws as compared to say a USD collateralised stablecoin.

This process does not always work as it should:

Most stablecoins claim they are backed by USD assets. Now that 1-year treasuries are yielding a mighty 1.94% collateral of the highest quality is available.

But the Luna Foundation has taken a different path. It has used its treasury reserves over the last couple of months in buying up BTC in decent size. As of a month ago total purchases of BTC totalled nearly 40,000 coins most if not all of which is now underwater.

Consequently LUNA has seen greater price pressure than the broader crypto market but that also put the UST dollar peg at risk over the weekend and again yesterday.

A failure of a stablecoin would be spectacularly bad for the broader crypto market. It isn’t just that stablecoins are a vital cog in Decentralised Finance (DeFi), it’s the hit to market confidence that could lead to a rapid and very painful repricing of the entire crypto market.

And let us not forget that regulators, lawmakers, and central banks are particularly concerned with stablecoins, probably because of the threat they pose to their own plans for central bank digital currencies (CBDCs).

It seems likely to me that a stablecoin failure would lead to almost immediate implementation of some very poorly designed regulations that would have a devastatingly detrimental effect on the ability of crypto businesses to develop and innovate.

I apologise if all of this sounds like doom-mongering, something which I do try to avoid. But I feel we should all be aware of this potential problem.