$84 million leveraged a $40 billion financial empire, the rise and fall of UST

Original author: 0x137, Rhythm BlockBeats

In 1997, legendary financial killer George Soros and his crocodile allies hunted the Southeast Asian bubble market, massively selling the Thai baht and quickly depleting the Thai central bank's $30 billion foreign exchange reserves, ultimately forcing the baht to adopt a floating exchange rate system, further plunging Southeast Asian countries into the abyss of financial crisis.

In 2008, Wall Street investment banking giant Lehman Brothers faced massive exposure due to a large number of subprime mortgage defaults, with liabilities far exceeding the company's market value, and was forced to file for bankruptcy in the Southern District of New York, nearly destroying the entire modern financial system.

These epic capital confrontations have spread across the streets of the world over the past decade, becoming iconic historical events that people study repeatedly as textbooks. But who would have thought that the same story would unfold again in the cryptocurrency market, which has only a 10-year development history, and be "live broadcast" in front of everyone through on-chain traces.

On May 10, the native algorithmic stablecoin UST of the Terra ecosystem experienced a severe de-pegging event due to capital hunting and a debt crisis, dropping to as low as $0.6. This second-largest public chain ecosystem with a TVL of nearly $20 billion simultaneously reenacted the terrifying disasters of the Thai baht and Lehman in just two days.

Margin Call: The Life-and-Death Speed of UST's Collapse

As the second-largest public chain ecosystem in the cryptocurrency market, Terra has always been a controversial subject. On one hand, through the Luna-UST dual-token mechanism, the Terra ecosystem successfully promoted its algorithmic stablecoin UST throughout the cryptocurrency market, rapidly increasing the price and market value of Luna; on the other hand, its "promotional machine" Anchor Protocol, used to promote UST, has been widely criticized and is generally regarded as an unsustainable "Ponzi scheme."

For a long time, supporters and skeptics of Luna have appeared very extreme. Supporters call themselves the "Lunatics" army, attacking and sweeping away criticisms of the Luna mechanism on social media platforms like Twitter every day; skeptics, citing "Ponzi," eagerly await the day Luna collapses. Such a highly "tense" ecosystem is hard for speculators to ignore, and these capital killers always keep an eye on industry trends, waiting for the best hunting moment.

After the Federal Reserve announced another 50 basis point interest rate hike, the opportunity finally arrived. Since May, the Nasdaq index has continued to decline, and the market's reaction to the macro situation has been extremely pessimistic, with Bitcoin prices dropping nearly 10% for several consecutive days, and panic spreading rapidly throughout the cryptocurrency market. Meanwhile, the core team of the Terra ecosystem, LFG (Luna Foundation Guard), announced on May 8 that it would adjust the UST-3Crv liquidity pool (the main on-chain trading venue for UST) in preparation for establishing its own strong 4Crv pool.

Various conditions created a perfect storm for capital hunting, and on the night of May 8, cryptocurrency giants quietly launched their long-planned "encirclement plan."

Phase One: Launching an Offensive During the UST-3Crv Pool Withdrawal Gap

In the early hours of May 8, LFG withdrew $150 million of UST liquidity from the UST-3Crv pool to prepare for the establishment of the 4Crv pool. At that time, the TVL of the UST-3Crv pool was around $700 million, and it surprisingly only took about $300 million to deplete UST liquidity.

About 10 minutes later, a new address suddenly sold $84 million worth of UST, severely impacting the balance of the 3crv pool.

To maintain the liquidity balance of the UST-3Crv pool, LFG withdrew another $100 million of UST from the fund pool.

At this point, rumors began to circulate on Twitter, claiming that this sell-off was orchestrated by LFG, and Terra founder Do Kwon immediately responded on Twitter.

Before long, multiple whale accounts began continuously selling UST on Binance, with each transaction amounting to millions of dollars.

Affected by the sell-off, UST began to de-peg, and at this time, an address suspected to be Jump Trading (UST's market maker) sold a large amount of ETH to buy UST, attempting to stabilize UST's peg.

As of now, this address has sold over 50,000 ETH to maintain UST's peg, leaving less than 13 ETH remaining in the address.

Until this point, the attack was mainly carried out through the UST-3Crv pool, involving an amount of around $300 million. If LFG's $4 billion 4Crv pool had been established before this attack, the aforementioned attack would not have been effective.

Phase Two: Massive Outflow of Anchor Funds Due to Panic

Due to the small de-pegging event in the early hours of the 8th, panic spread rapidly among UST and Luna holders. Starting from May 8, a large amount of UST locked in Anchor flowed into the market, further increasing the selling pressure on UST.

During this period, LFG announced it would "lend out" its $700 million Bitcoin reserves to maintain UST's stability.

However, according to Do Kwon, UST is not considered de-pegged as long as it remains above $0.95, so Bitcoin would not be used above this threshold.

This also explains why UST did not return to its $1 peg after the de-pegging on the 8th.

But LFG did not anticipate that UST's prolonged inability to return to its peg would bring significant negative sentiment to the market. The UST that fled from Anchor began to be sold on a large scale, causing the UST peg to drop below the $0.95 threshold. LFG was forced to start liquidating its Bitcoin reserves, and at this time, Do Kwon tweeted again: "Mobilizing more funds."

Subsequently, an address starting with "0x599" began to absorb a large amount of circulating UST in the market, exceeding $200 million.

This quickly helped rebalance the UST-3Crv pool, but the liquidation of Bitcoin further drove down its price, and market sentiment continued to deteriorate, leading to large-scale liquidations of Luna, further increasing the selling pressure on UST, and the UST-3Crv pool quickly fell back into an unbalanced state.

On the morning of May 10, Jump Trading and LFG likely realized that something was amiss and stopped selling Bitcoin reserves to protect the peg, allowing the situation to worsen, and UST plummeted to $0.6. Although the pegged price later rebounded somewhat, the ratio in the Curve platform UST-3Crv pool remained severely skewed, reaching a ratio of 91.37%/8.63%.

Phase Three: Behind-the-Scenes Trading, Rumors of Institutional Rescue Begin to Spread

After UST triggered the death spiral in a "terrifying 2 hours," rumors began to circulate that institutions like Jump and Alameda had reached some behind-the-scenes deals and were preparing to inject $2 billion to start a rescue. Subsequently, an address starting with "0x6c" indeed received a $2 billion transfer, but did not take significant action, and this address has not shown any connection to the UST incident.

Additionally, Binance also seemed to participate in the UST defense. According to Hasu, the host of "Uncommon Core," Binance forcibly set a trading floor price for the UST order book, preventing users from placing orders below the $0.7 threshold for an extended period.

This morning, news about LFG's financing emerged again. According to sources, LFG is seeking help from institutions, hoping to raise $1 billion to support UST. According to The Block researcher Larry, the current financing details indicate that Jump Trading, Celsius, and Jane Street have agreed to this financing, committing about $700 million, while Alameda Research has not yet agreed. The condition from the institutions is to acquire LUNA spot at a 50% discount, locking it for a year, and then unlocking it linearly over the following year. However, Larry emphasized that this financing has not been confirmed, and everything could change.

Regulatory Shadow: The Mantis Catches the Cicada, the Yellow Bird is Behind

Although the current discussions about UST's de-pegging are speculative, we have found extremely reliable information in the market. On the morning of May 10, renowned macro investor and Real Vision founder Raoul Pal interviewed Terra founder Do Kwon about UST's de-pegging. Although the content of the conversation has not yet been aired, Raoul revealed some details of the incident in a subsequent Bankless interview.

"It's simple, UST de-pegged, and Jump Trading, as UST's market maker, was forced to sell its ETH to buy UST, and then LFG was also forced to liquidate its Bitcoin holdings," Raoul briefly explained the course of the event when discussing UST's de-pegging, and immediately added: "This is a typical Margin Call, just like someone tapped Luna on the shoulder and said, 'Give me back my collateral.' Such things happen every day in traditional finance."

Indeed, the amount that triggered UST's death spiral was not more than $300 million, and the current damage is only in the scale of several billion, which is indeed small compared to traditional finance. But what is most incredible is that it happened under everyone's watch, which is extremely rare in the traditional financial world. Thanks to blockchain, we have witnessed the first large-scale "Thai baht + Lehman" event in the history of cryptocurrency development.

Moreover, this severe de-pegging of UST is not the first time Luna triggered a death spiral. Last year, on May 19, UST also experienced a severe de-pegging, dropping to $0.85, and it was only through LFG's rescue that Luna and UST were able to survive and develop. Since then, LFG has made a series of changes to prevent similar incidents from happening again, including a new backing mechanism for UST.

In fact, purchasing Bitcoin and other native tokens of L1 public chains as backing is not a wrong choice, but achieving the full delivery of this new mechanism will take some time. If LFG's $4 billion 4Crv pool had been established, such a collapse might not have occurred at all. But unfortunately, the market did not give Do Kwon, the "Luna maniac," enough redemption opportunities; Luna's collapse this time was a defeat against time.

Experienced DeFi players should know that the impact of this UST de-pegging may not be limited to the Terra ecosystem. Just like the bankruptcy of Lehman Brothers, the collapse of the Luna ecosystem could affect the entire cryptocurrency market. However, many, including Raoul, believe that the worst impact of this de-pegging event is actually on the regulatory front. The "mantis catching the cicada" by the cryptocurrency giants may have also attracted the "regulatory yellow bird" behind them.

We know that central banks around the world have been vigorously promoting their digital currencies (CBDCs) in recent years. The way UST, as a "stablecoin," has gone mainstream undoubtedly provides regulatory agencies with a perfect excuse. Setting aside the question of whether UST can regain confidence, discussions about "UST's de-pegging possibly attracting regulation" have already begun to spread widely on Twitter, raising concerns among many.

Sure enough, the regulatory wind began to blow on the night of the incident. On May 10, during a meeting on Capitol Hill, U.S. Treasury Secretary Janet Yellen discussed the regulation of dollar stablecoins in the cryptocurrency market, stating that legislation for dollar stablecoin regulation is urgent, "This area is growing rapidly and brings huge risks. It is well known that today Terra UST experienced a round of decline."

Undoubtedly, UST's collapse has once again cast a shadow of regulation over the entire stablecoin sector. Now we must consider whether regulatory agencies in various countries will launch a "regulatory encirclement" against stablecoins. Will the future cryptocurrency market lose its "sovereign freedom"?