chasing answers newsletter #7

The joys of a new laptop and the crypto collapse

May 15, 2022

“Speculation is an effort, probably unsuccessful, to turn a little money into a lot. Investment is an effort, which should be successful, to prevent a lot of money from becoming a little.” - Fred Schwed Jr.

Welcome back to the 7th edition of the chasing answers newsletter! I want to send out a massive Thank You to those who regularly open and read this email. It is greatly appreciated. Right now, the newsletter is the only writing I am getting done consistently, and having someone to share it with is a huge help. Your subscriptions are a forcing function for my consistency, so Thank you!

This edition has a high concentration of crypto news, so I hope you’re into it!

Let’s jump in!

It was a rough week for me and crypto traders.

I had to deal with the dreaded task of getting a new work laptop. Actually, I’ve had the laptop for a couple of months but have been putting off making the switch. This week I was forced to do so.

Every time I get a new computer at work, IT says the same thing, “It’ll be simple. Your apps, settings, preferences, everything will all just come over.”

Right.

To me, it feels like the tech equivalent of trying to hold my daughter up off the toilet seat while she takes a shit in a public restroom and discovering there is no toilet paper in the dispenser. Yes, that actually happened to me recently. If you are neither a parent nor a germophobe, you’re confused right now. If you are both of those things, I’m speaking your language.

I always have way too much stuff saved directly to my computer, so for the next several weeks, I’ll be juggling both of them until I’m finally convinced I have everything I need and feel safe enough to let the old one go. Not looking forward to it, but hopefully, it goes better than this past week did for $UST holders.

Crypto traders had bigger problems than a new work laptop to deal with and unfortunately, I’m in that group. It’s a small percentage of my investments but I still felt the pain.

The good news?

Shitposting was at an all-time high on Crypto Twitter so at least there were plenty of jokes to ease the pain.

Unstable Coins

If you follow crypto at all, and probably even if you don’t, you’ve most likely heard some news about Terraform Labs and their two native tokens, Terra (LUNA) and TerraUSD (UST).

The TL;DR is they have crashed and brought the crypto market as a whole down with them.

So this newsletter doesn’t turn into a 5,000-word essay, and since many people who can explain this better than I can have already written about it, I’m going to give a quick rundown of what happened and then provide links to some other articles and threads. If you really want to dive deep into it, I highly suggest giving them a click.

UST is an algorithmic stablecoin. At least, that’s what it was supposed to be. As a stable coin, it is supposed to maintain a value of $1 at all times. And LUNA’s primary function is to make sure UST stays at that $1 valuation. This happens through on-chain algorithms that maintain the supply and demand relationship between the two coins.

Many stablecoins have traditional assets backing them like USD or bonds. This is how they maintain their $1 value. For every coin, there is literally 1 USD or $1 worth of bonds in reserves to back it up. It’s a 1:1 relationship. There is little room for error. Algorithmic stablecoins don’t have this backing; they rely mainly on the algorithm to maintain their $1 value. Whenever there is an algorithm, there is almost certainly a way to take advantage of it. There are still questions over whether this was a coordinated attack or just an unfortunate series of events, but either way, the algorithm couldn’t keep up with what was going on in the markets.

The crucial thing to remember about the relationship between LUNA and UST is that 1 UST can always be traded for $1 of LUNA.

In theory, if UST falls below $1, it can be bought and traded for $1 of LUNA. This drives the price of UST back up to $1 by burning (taking out of circulation) 1 UST and minting (putting into circulation) 1 LUNA.

If UST rises above $1, the exact opposite should happen. In that case, $1 of LUNA can be traded for 1 UST, which lowers the price of UST by burning (taking out of circulation) 1 LUNA and minting (putting into circulation) 1 UST.

There is one other important piece of the puzzle for Terra. Anchor Protocol. This is what gives UST utility or basically gives people a reason to own it. Anchor Protocol gives people 19.5% interest for staking their UST. Essentially you are putting your UST in a savings account and getting 19.5% interest.

So What Happened?

Basically, there was a run on the bank. Someone started selling huge amounts of UST. (Because of the size of the trades, many believe this was a coordinated attack by one or more of the large hedge funds or trading firms. Nothing has yet to be confirmed on that front.) The selling triggered more selling, and then there were huge withdrawals of UST from Anchor, which flooded the market even more, dropping the price well below its $1 value.

With the price of UST well below $1 but still able to be traded for $1 worth of LUNA, this began the rapid increase in the supply of LUNA, which caused its value to begin plummeting (remember, any time 1 UST is traded for $1 worth of LUNA, UST is being taken out of circulation and LUNA is being put into circulation.)

Because of all the panic, LUNA was also being sold in the markets putting even more downward pressure on it. The farther the price of LUNA dropped, the more that had to be minted every time UST was traded for it. This caused a cycle that many analysts call a “death spiral.” By the end of the week, the whole thing had resulted in UST dropping from $1 to less than $.20 and LUNA dropping from the low $70’s to fractions of a penny.

It also resulted in calls for crypto regulation, and LUNA and UST being delisted on most exchanges.

The repercussions from this will most likely be far-reaching and worth watching in the coming weeks and months. If you are a crypto investor, it’s something you need to pay attention to, and even if you’re not, the entertainment value alone might make it worth watching.

If you would like to read more about the collapse in UST, I highly recommend checking out the threads and links below.