What Really Happened to LUNA Crypto?

Important takeaways

• When Luna’s crypto network collapsed, an estimated $60 billion was wiped from the digital currency space.
• Algorithmic stablecoins (UST) are not the same as Tether or USD Coin, which are backed by actual dollars or assets stored in a bank.
• An arrest warrant has been issued for Do Kwon, the co-founder of Terraform Labs, where sister tokens Luna and TerraUSD were held.

The Terra network and its leader, Do Kwon, rose to prominence in the cryptocurrency world over the course of four years, all ending in a catastrophic fall from grace. Luna’s crypto network collapsed in what is considered the biggest crypto crash ever, with an estimated $60 billion wiped out, shaking the global digital currency market.

There are two stories about the Luna crypto: the TerraUSD/UST stablecoin and the actual Luna coin. When Luna and UST crashed, it was a total liquidity crisis in the cryptocurrency space that caused an even more catastrophic loss of value. The crypto community still hasn’t recovered.

To understand what happened, let’s go through what happened step by step.

What exactly is Luna crypto?

You may have heard of TerraUSD and Luna, here is a quick overview of exactly what they are. Many moving parts in the Luna network before it collapsed.

TerraUSD (also known as UST) and Luna are two sister coins on the same network.

Terra is a blockchain network, similar to Ethereum or Bitcoin, that produces Luna tokens. The network was created in 2018 by Do Kwon and Daniel Shin of Terraform Labs.

Terraform Labs created the UST coin to be an algorithmically stable coin on the Terra network. While other stablecoins (USDC or Tether) are fiat-backed, UST will not be backed by real assets. Instead, the value of UST will be supported by its sister token, Luna. More on that later.

Stablecoins are supposedly safe havens in the crypto space since they are supposed to have a fixed value of around $1. The goal is a stable store of value for investors, unlike other volatile coins (such as Ethereum).

Luna was Terra’s native token for the blockchain, similar to how Ether is used on the Ethereum network. Luna had four different roles in the Terra network:

1. A method of paying for transaction fees in the Terra network.
2. A mechanism to maintain Terra’s stablecoin peg.
3. Investment in Terra’s delegated proof-of-stake (DPoS) to validate network transactions.
4. Participation in the platform’s governance by adding and voting on proposals regarding changes to the Terra network.

How much was Luna worth?

A Luna coin went for around $116 in April and ended up falling to a fraction of a penny before being delisted. Before that, the coin went from being worth less than $1 in early 2021 to creating many crypto millionaires within a year. This led to Kwon’s cult hero status among (some) crypto investors. Many success stories appeared in the media about how ordinary people could become rich from Luna.

The Luna token shot up around 135% in less than two months to peak in April 2022. The biggest incentive was that you could stake your UST holdings on the Anchor lending platform for an annual return of 20%. Many analysts believed that this absurd rate was unsustainable.

The Anker Protocol was a decentralized money market built on the Terra blockchain. This platform became popular for its mentioned 20% return for UST holders who deposited their tokens on the platform. Then Anchor turned around and lent the deposit to another investor. Many skeptics were concerned about where the money was coming from to pay these prices. Some considered this an obvious Ponzi scheme. At one point, as much as 72% of UST was deposited in Anchor because the platform was the primary driver of demand for Terra.

What happened to UST?

Before we look at this crypto disaster, we need to discuss stablecoins briefly. A stablecoin is linked to a more stable currency such as the US dollar. Tether and USDC are both pegged to the USD. Stablecoins are used to hedge against volatility in the crypto space. For example, let’s say Ether’s price is $1000. You can exchange one Ether for 1000 USDC tokens. When investors expect a hit in the crypto market, they put their money into stablecoins to protect their assets.

The UST coin was not backed by an actual US dollar, but rather an algorithmic stable coin. The belief was that Terraform Labs could use smart mechanisms along with billions in Bitcoin reserves to maintain the peg to UST without the backstop to USD.

To make UST you need to burn Luna. So, for example, when the price of the Luna token was $85, you could exchange one token for 85 UST. This deflation protocol was designed to ensure that there was long-term growth for Luna.

In order for UST to keep its peg, 1 UST can be exchanged for $1 worth of Luna at any time. If UST fell, traders could make money by buying UST and then trading it for Luna.

Both Luna and UST crashed when UST lost its link to the dollar, which was what qualified it as a stable coin.

TerraUSD was risky because it was not backed by cash, government bonds or other traditional assets like the popular stablecoin Tether. The stability of UST was derived from algorithms that linked its value to Luna. Many experts were skeptical that an algorithm could keep two tokens stable.

Why did LUNA crash?

Luna’s cryptocrash was caused by its connection to TerraUSD (UST), the algorithmic stablecoin of the Terra network.

On May 7th, over $2 billion worth of UST went unclaimed (taken by Anchor Protocol), and hundreds of millions of it were quickly liquidated. There is debate as to whether this happened as a response to rising interest rates or whether it was a malicious attack on the Terra blockchain. The huge selling brought down the price of UST to $0.91, from $1. As a result, traders started changing 90 cents worth of UST for $1 Luna.

Once a large amount of UST had been unloaded, the stablecoin began to depeg. In a panic, more people sold UST, leading to the minting of more Luna and an increase in the circulating supply of Luna.

After this crash, crypto exchanges started removing Luna and UST pairings. Long story short, Luna was abandoned when it became worthless.

What happened after the Luna crash?

The Luna meltdown affected the entire cryptocurrency market, which was already highly volatile and struggling at the time. It is estimated that the Luna crash ended up boosting the price of Bitcoin and causing an estimated loss of $300 billion in value across the cryptocurrency space.

Crypto leaders Voyager and Celsius filed for bankruptcy. Three Arrows Capital (3AC) was forced into liquidation.

Many people lost their savings and suffered financial hardship due to Luna’s crypto crash. If you do a quick search online, you will find many of these horrific stories. Many loyal Luna fans (referring to themselves as “Lunatics”) took to Reddit threads to share their disastrous stories. One private crypto investor even confessed that they lost their $20,000 savings in Luna.

The only winners were those who exited their positions before the crash. One winner that we have to single out is the hedge fund Pantera Capital. They saw a 100x return on an initial investment of $1.7 million. The company liquidated the Luna position before the collapse for a return of $171 million.

What happened to the Luna Crypto founder?

Do Kwon shared a recovery plan for Luna, and things looked promising for a brief period in May after the original crash. But the coin eventually plunged. It was immediately abandoned. Terra ended up launching a new coin, Luna 2.0.

On September 15, it was announced that a court in South Korea had issued an arrest warrant for Do Kwon. This came almost four months after the collapse of Luna and UST, the two tokens issued by Terraform Labs. Do Kwon and five other people are currently accused of violating local market laws.

Officials in South Korea are attempting to revoke Kwon’s passport as they believe he is currently residing in Singapore. In theory, if this legal action goes through, Kwon would have to return to South Korea within 14 days of receiving the notice of the recall. The ministry is currently considering the request.

Some investors who lost money in Luna have filed a complaint with local prosecutors alleging that Kwon was involved in fraud and illegal fundraising. It is estimated that around 280,000 people in South Korea had invested money in Luna.

How should you invest?

If you are looking to invest in the cryptocurrency space, you may want to consider an investment kit such as our Crypto Kit or Emerging Tech Kit. Both kits help spread risk across industries, not just investing in a single coin or company, but the entire ecosystem. They both use artificial intelligence to assign portfolio weights each week across four corners: crypto, tech ETFs, large tech companies and small tech companies. Users can activate Portfolio Protection at any time to protect your gains and reduce your losses, regardless of the industry in which you invest.

The bottom line.

If you are going to invest in digital currency and other particularly volatile assets, you have to accept that there is going to be an outsized risk associated with it. Hopefully this catastrophic Luna collapse is more of a superficial black swan event than the start of an era. The key should be that if an investment seems too good to be true, it usually is. Secondarily, for investors who remain bullish on crypto for the long term, it would make sense to limit these investments to 5-10% of one’s portfolio.

Download Q.ai today for access to AI-powered investment strategies. When you deposit $100, we add another $100 to your account.