Never too late to learn from the Luna crash!

One blockchain network, Terra, has been swept ashore by the turbulent waters of this month’s cryptomarket bloodbath.

Do Kwon (the network’s founder) has abandoned any attempts to restore the chain to its former glory. Do Kwon now advocates for a hard fork with a new cryptocurrency, a highly suspect approach that has no guarantee of restoring value to investors.

It is certain that TerraUSD (UST), and the LUNA governance token won’t recover. The former is now trading at over 90% below its dollar peg while the latter has suffered what may be the greatest and most sudden currency collapse in history.

This is a rare instance of financial implosions, even in crypto. How can billions of dollars that are stored in such a well-supported protocol evaporate in a matter of days – not to mention a “stablecoin?”

The time is right for everyone in the crypto community to examine their assumptions about stablecoins and investing. These are five important lessons that we can learn from the Terra network’s demise.

1. Stable Assets Require Stable Reserves

Stablecoins combine the best of both old and new financial worlds, combining the speed and decentralization of cryptocurrency with the stability and value of fiat currency.

The most popular stablecoins right now are not entirely decentralized. Tether (USDT), which is the stablecoin’s value, backs it with highly liquid, non-decentralized reserve assets (commercial papers, Treasury bills, etc.). Private companies must regularly audit these reserves to verify that USDT is fully backed, convertible.

TerraUSD was, however, an algorithmic stablecoin. The token was programmatically backed with cryptocurrency, specifically LUNA, instead of dollars.

Any UST holder can redeem their stablecoin at any time for one dollar of newly minted LUNA. LUNA holders can also exchange their holdings for a UST count equaling the dollar value of LUNA. This mechanism provided stabilizing arbitrage incentives comparable to USDT, so that the stablecoin’s market price could always be redirected back to one dollar.

The asset backing UST, however, was not as liquid and stable as USDT. This means that if many UST holders wanted to redeem their holdings simultaneously, the value of LUNA would be significantly lower after excess supply was flooded onto exchanges.

Unfortunately, this is exactly the scenario that occurred after wealthy UST owners began a short attacking against stablecoin. Incentives were given to investors to redeem their UST holdings in order for them to receive LUNA in large quantities. This created an oversupply. It was a spiral of destruction that saw both UST, and LUNA lose their credibility and value.

This would have likely prevented this phenomenon if UST had been backed by an asset that has a deeper market and is less vulnerable to price fluctuations.

2. Do not buy hype, but value

A high market value does not necessarily mean that a stock is a reliable investment. Don’t trust the bullish, greedy mob to tell your whereabouts. Do your research.

This is a crucial point that cannot be overemphasized. Terra’s collapse was due to a flawed stabilization system that everyone could examine from the beginning. In reality, other coins with similar stabilization mechanisms had been attempted – and failed- many years before.

These details were not important to investors, nor was the 20% unusually high yield offered by Anchor protocol to UST holders. Thousands of investors didn’t do their due diligence when they had the chance to avoid the flood.

Trusted billionaires from the crypto community took to Terra without hesitation, inspiring many more. Mike Novogratz had a tattoo with a LUNA-themed design on his arm in January. He now considers the artwork “a constant reminder of how venture investing requires humility.”

These events show that even experienced investors don’t know as much about crypto security as you do. These should not be trusted.

Bitcoiners have a saying: Don’t trust, verify.

3. Crypto is not all “Decentralized”

Terra’s developers pumped a lot about creating “decentralized cash” for a “decentralized economic system.” But, when it was time to push, the community exposed its opaque and centralized governance structure.

Do Kwon and Terraform Labs were the only parties that had power during Terra’s last moments. In an effort to save the network, all three parties made many hasty and massive decisions – none of which succeeded.

Do Kwon, along with six other LFG members, voted on May 9th to draw $1.5 billion from the reserve pool in order to protect the UST value. The Guard left the community without any updates until May 16, when it informed them that almost all of its reserve assets, including 80,000 BTC, had been sold.

Terraform Labs also collaborated with validators to temporarily freeze the Terra blockchain. This was done without the consent of the community, ironically in order to “prevent governance attack.” Terra’s blockchain only has 130 validators.

Do Kwon even retweeted a stating the LFG was indeed a centralized structure (which he intended to move from in time).

There is a distinction between “can’t and “won’t” when it comes to “decentralization. If a small group can control a blockchain network whenever they feel it necessary, then it’s truly decentralized.

4. Stay Humble, Even If You’re Rich

It’s not good taste to kick a man when he’s down, especially when he has already been facing lawsuits and multimillion-dollar fines.

It can also be very entertaining to watch companies go under, especially if they are governed by people who once were so rude and self-assured.

It’s not mine. Do Kwon is the one who said it. He spoke to a streamer just days before Terra’s collapse and claimed that there would be entertainment in seeing 95% of the industry’s startups fall over time.

This was not a lighthearted joke, but a dangerous display of self-certainty towards Kwon’s critics and competitors. Kwon made this clear when he publicly attacked several people who tried to warn him about the security flaws in his protocol.

He tweeted May 7th, “You could listen CT influensooors for the 69th times about UST depegging, or you could remind them all are now poor, then go for a run instead.”

Kwon stated the following day that anyone worried about a UST depeg should “wait until the age limit for men expires.”

Kwon’s worst behavior came at the peak of crypto’s bull markets in November. A Twitter user described a method by which Terra would be destroyed due to a brief attack. co-founder referred to it as the “most retarded thread” in his entire decade. The user was then dismissed by the co-founder and invited his billionaire followers to attempt the attack.

Kwon may have been able save his reputation if Terra’s demise were a true black swan. After mocking the critics of Terra’s poorness, inviting whales to attack the network and losing a $200m “bet on LUNA’s death… is it any surprise his followers are short on sympathy?

Kwon, Terra’s most powerful leader, hasn’t been affected by his actions. His implicit responsibility for leading the community through a crisis is now on his shoulders.

After destroying his credibility, the crypto community is largely reluctant to join his last resort hard fork strategy. Some even distrust the legitimacy of his proposal’s governance vote, believing it to be rigged.

It doesn’t matter if such claims are true. Trust is fragile, especially in an industry rife of scams and bugs. It is difficult to earn trust, but losing it is easy.

Conclusion: Learn Now, Not Later

Crypto could be the home of financial innovation’s next big thing. It is also plagued by a lack of regulation, market manipulations, hacks and thefts, anonymity, a lack of transparency, and reckless FOMO culture.

You think that investors know everything about crypto, but they don’t know as much as you. Developers who claimed everything was under their control couldn’t, in fact, control the market surrounding their stablecoin.

Learn from Terra’s mistakes and try to understand your crypto investments better. Nobody can do the learning for your, and nobody can save you if they fail.