Luna Foundation Guard To Support Struggling UST Peg With BTC Reserves

Stablecoins pegged to the US dollar have just one job: hew as closely as possible to $1.

Any meaningful deviation from the one-to-one peg threatens to undermine the confidence of stablecoin holders. 

That was the case with Terra’s UST stablecoin over the weekend, as it experienced its most significant stability test since May 2021, briefly dropping to around 98 cents on major decentralized exchange Curve Finance. Today, the Luna Foundation Guard (LFG) — tasked with defending the peg and armed with $2.6 billion in bitcoin — is manning the ramparts.

UST is an algorithmic stablecoin whose supply expands by burning LUNA, the native asset of Terra. As demand for UST pushes the price above a dollar, LUNA is burned to mint more, restoring the peg. Over the past 6 months, the market cap of UST has skyrocketed from just under $3 billion to more than $18 billion.

When the market cap of UST grows, the supply of LUNA shrinks, which puts upward pressure on LUNA’s price. But the reverse is also true — when the UST supply contracts and the price drops below a dollar, LUNA is minted and sold to restore equilibrium.

Trouble began for UST after an $85 million transfer, coming from the Terra blockchain through the Wormhole bridge to Ethereum, was quickly sold on Curve on May 7. Another $108 million in UST from the same Terra address was sent to the Binance exchange and sold. 

Such large transactions pushed the price on those exchanges markedly off peg, which led major accounts to begin withdrawing UST from lending and borrowing dApp Anchor Protocol by the millions.

Anchor offers a subsidized yield, that for most of its history was 20% APR, but was recently lowered to 18%. The vast majority of UST is deposited there. Since the UST peg started to wobble, Anchor’s deposits have fallen by almost a quarter: Around $3.5 billion has been withdrawn.

After a couple of tense hours, Terraform Labs’s Do Kwon took to Twitter in a bid to calm markets.

In a follow-up, he waxed philosophical, expressing confidence in the stablecoin’s, well, stability.

“Those of you waiting for the earth to become unstable — I’m afraid you will be waiting until the age of men expires, cities have returned to the dust, oceans have gone bone dry, the map of continents have been drawn anew, and dinosaurs once again roam the earth.”

A large market operator began selling ether en masse to rebalance the UST Curve pool and support the price.

It’s unclear who caused the initial mass selling of UST, but critics have long argued that the available liquidity on exchanges is insufficient to support large-scale efforts to exchange UST for alternative stablecoins or fiat currency.

Do Kwon initially blamed a single bad actor in a since-deleted tweet that misrepresented the percentage of users responsible for Anchor withdrawals.

Caetano Manfrini, an attorney for Brazil-based GEMMA Ecosystem, told Blockworks he believed the sequence of events were well timed.

“I don’t know if all these steps were orchestrated, but it seems to me that someone was waiting for a window of opportunity (BTC crash), in the middle of Saturday night…Opportunists [have been] common in the market since our existence,” Manfrini said. “If it happened once, it will happen again.”

LFG deploys reserves

In an attempt to restore confidence, the LFG announced Monday it would loan $750 million in bitcoin and an equal amount of UST to a professional market maker to facilitate the arbitrage operations needed to maintain the dollar peg.

As of noon ET Monday, that bitcoin had yet to be deployed, according to the LFG Reserves dashboard. A LFG representative did not immediately return a request for comment. 

Meanwhile, the price of one UST has been trading dangerously low again, hitting 0.98% on major exchanges.

This is a developing story.

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