The LUNA Collapse: Read This BEFORE You Invest in Cryptocurrency

There’s been a lot of talk about cryptocurrency recently, with the new Bitcoin ETFs, and the recent Bitcoin halving.

So, I wanted to shed some light on a story which didn’t end well for a large group of cryptocurrency investors.

I’ve been a big advocate for innovation in this sector. But occasionally, a project like Terra ($LUNA) comes along which reminds us to always tread carefully.

This story emphasises the importance of due diligence and risk management when investing.

I’m not trying to put you off investing in crypto. I’m just trying to make you aware of some of the risks involved.

Here is a brief recollection of the $LUNA collapse.

What was Terra?

There once was a crypto venture called Terra. Terra consisted of two main crypto assets:

• $LUNA

• $UST

$LUNA was a Layer 1 blockchain which was rapidly growing in price in early 2022.

$UST was a stablecoin, meaning it was pegged to $1. It was essentially a digital alternative to the dollar.

Due to stablecoins being… “stable”, the benefit of $UST was to provide an interest rate to investors, which was greater than the rate of conventional banks.

Some decentralised platforms in early 2022, like Anchor Protocol, was offering up to 20% interest on $UST, a rate regular banking institutions couldn’t compete with.

Remember this. It‘s important for later on in the story.

As for $LUNA, it’s technology, combined with deflationary tokenomics (the supply was going down) caused it’s value to skyrocket in early 2022.

$LUNA reached an all time high of around $120 per token in April 2022, after being only $50 two months earlier.

This was all happening after Bitcoin had topped for that cycle (around $69k back in November 2021) and the rest of the market was crashing.

At it’s peak, $LUNA exceeded a $30 billion market capitalisation, putting it comfortably in the top 10 cryptocurrencies at the time.

Investors saw $LUNA as a saviour, and a place they could park huge amounts of wealth during a period of decline in the crypto market.

$LUNA was, for now, the silver lining in cryptocurrency.

Investors flooded in.

How $LUNA and $UST worked

$LUNA was a Layer 1 blockchain, meaning it’s used to transfer value from one place to another.

Pretty simple stuff.

But $LUNA was also known as an algorithmic Blockchain, which was something new to crypto, in which the safety of the asset was based off a set of rules (an algorithm) rather than financial backing.

A bit like climbing up a 1000ft sheer mountain without a safety harness.

The way up might be quicker, but like… come on.

Anyways, back to Terra.

When $LUNA transactions occurred, transaction fees were burned and converted into $UST, the Terra stablecoins.

This gave Terra investors two significant advantages.

1. The supply of $LUNA was being reduced, making it more scarce.

2. The new $UST coins could be paid out as interest to existing investors.

Like I said earlier, some platforms were offering in excess of 20% annual interest… on a stablecoin.

Sounds amazing right?

It almost seemed… too good to be true.

The Beginning of The Collapse

Whilst everything was looking great, $UST (yes, the stablecoin) began to lose it’s peg to $1 due to a massive amount of sell orders.

It was the crypto equivalent of a bank run.

Why this began to happen? Who knows.

For pretty much every other stablecoin, this should only be a minor, short term incident.

They can offset any small decline with assets that they use to back the stablecoin, and then can buy back tokens until the peg is back to where it should be.

Except, $UST wasn’t an ordinary stablecoin.

It wasn’t backed by assets 1:1. It was backed by an algorithm.

So, thing’s didn’t improve.

A week had passed, and $UST was sitting at around $0.80 due to the constant waves of sell orders.

For any confusion, just imagine that any amount of money you have in a bank, was now worth 80 cents on the dollar.

It would suck, right?

Well, thing’s were about to get a lot worse.

Despite not being backed, Terra founder, and now convicted criminal Do Kwon, still had a $10 billion Bitcoin fund in case of any mishaps.

It was now at this point when Do Kwon, who was arrested last year whilst on the run, infamously tweeted:

“Deploying capital, steady lads.”

This $10bn fund was spent on buying back $UST tokens, but it wasn’t enough to repeg it.

Before Do Kwon knew it, he was out of cash, and $UST was in free fall from sell orders.

So, there was only one way that $UST could be saved…

The Brutal Price Declines of $LUNA and $UST

As a final straw, Do Kwon and the geniuses at Terra decided to create new $LUNA tokens, and sell at market price to generate funds to buy back $UST tokens.

I think by this point, the events which were to follow were inevitable.

Investors had lost all faith in Terra and it’s $UST stablecoin, but the worst was yet to come for $LUNA investors.

In a last ditch attempt at saving $UST, within a matter of days, the supply of $LUNA tokens increased by amounts which boggle the mind.

• Before the collapse, the supply of $LUNA was around 300 million tokens.

• Days after, the supply of $LUNA was around 6.5 trillion tokens.

Take a minute to fathom that number.

When you consider that all of these new tokens were being sold at market price to buy back $LUNA tokens, well you can already assume what happened to the price of luna.

$LUNA went from $77 per token, to $0.0001 per token in about 10 days.

The worst part? $UST never recovered either.

Investors lost everything. Billions, to virtually nothing.

There were reports that people had taken their lives over the collapse, which shocked the community.

It showed how many people had gone “all in” on Terra, using $LUNA for value appreciation, and $UST for passive income.

But the one thing that I sometimes think about was… “why did it happen?”

• Was it because of the crypto crash?

• Was it because of a worsening economic outlook?

• Was the algorithm doomed from the start?

• Was it a coordinated attack from banks or private equity?

Who knows.

I’m just grateful I can let my mind wander on these questions rather than having to deal with any financial loss from investing in Terra.

Terra Today

Today, Terra is 3 assets.

1. $LUNC — “Luna Classic”. The original $LUNA, with a supply of trillions, worth a fraction of a cent.

2. $USTC — “UST Classic”. The original $UST stablecoin, which sits at 2 cents per token.

3. $LUNA — A new Terra token which was created shortly after the collapse. Even this is down 90%+ since it was created.

The market capitalisation for the 3 assets as still around $1 billion, which in the real world, is an absurd amount of money.

But at it’s peak, the two combined assets were more than $60 billion in value.

Blind luck was the only thing stopping me from investing in $LUNA in early 2022.

It felt like everyone, and I mean EVERYONE, was investing.

For a while, it was the only thing going up. Everything else was going down.

It was my first real taste of declining the FOMO that everyone else was succumbing to, and to say that it paid off, would be an understatement.

But because I didn’t invest, it doesn’t mean I can’t learn from the experience, and share my thoughts with others.

It was, for me, the perfect case of FOMO.

After seeing what happened, I never invested the same way again.

I was on the sidelines for the whole collapse, but it changed me.

That’s how bad it was.

The Moral of The Story

Whether it be one small community, or an entire market, there can come a time in investing where there seems like nothing can go wrong.

You’re sometimes of the belief that “anything is possible”, which for a while, can be true.

But, more often than not, these “too good to be true” opportunities really are too good to be true.

Investors call this “peak euphoria”, and it’s a dangerous place to be.

All risk management goes out the window, and you’re playing with your net worth with nothing but emotions and greed.

This is what happened to Terra investors.

Whilst everyone else in crypto was losing money, they were seeing new all time highs every month, only for it to all be gone in a matter of days.

I can’t stress enough the importance of proper due diligence when investing in any sector, especially cryptocurrency.

Yes, I’m a huge advocate for investing, and I believe the bigger long term risk is not investing, due to inflation.

But, I also know that it isn’t for everyone, and horror stories like these do come around every once in a while.

Although they’re not nice to hear, stories like these are necessary for reminding ourselves of the risks involved in investing into speculative assets.

If you want some quick guidance to investing with low risk, here’s what I’d do:

• Keep the majority of your investment portfolio in a broad ETF (like $VOO, $VTI etc.)

• Diversify your portfolio. Except ETFs, which are already diversified, never have more than 10% of your net worth in one asset (stock, commodity, crypto etc.)

• Never buy or sell based off emotions.

• Dollar cost average. Invest regularly, instead of going all in at once.

• Have a strong level of knowledge on all your investments.

• Keep up to date with your investments and the general economic outlook.

Stick to these, and you’ll be alright.

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