Why is Crypto Down, Why TerraUSD Crashed ‘Now stablecoin is Risk?’

Another awful day for crypto markets. The market is still nervous following the massive sell-off caused by the insecurity of stablecoin TerraUSD (UST). This stablecoin exploded earlier this week after failing to maintain its one-to-one peg with the US dollar. UST is now trading for less than $0.045.

Terra protocol’s LUNA token, which was developed by the project to aid with the preservation of TerraUSD’s value, is similarly in shambles. LUNA, which peaked at $119.18 in early April, is currently worth less than a penny, having lost more than 99.99 percent of its value in the last 24 hours. The losses are severe, with LUNA currently selling at $0.0002.

Crypto Losses

Earlier today, during Asian trading hours, Bitcoin plunged precipitously to a 24-hour low of $25,402. This was also a 52-week low, matching December 2020 values before Bitcoin recovered beyond the $29,000 mark. Despite a noon rally, the original cryptocurrency is still down more than 5% in the last 24 hours.

Bitcoin prices are already down about 39% year to date and trading significantly below their all-time highs of around $69,000 in November 2021.

Ethereum is still trading below the psychological milestone of $2,000, having dropped more than 13% in the last 24 hours.

The Risks of Stablecoins

Let us now address the elephant in the room: stablecoins.

Stablecoins are one of the main reasons for this week’s drop, and crypto investors should keep an eye on volatility in this sector, notably UST and LUNA.

Experts that are critical of the Terra ecosystem believe that the mechanism underlying TerraUSD was fundamentally broken and that its unraveling should not come as a surprise. To maintain the stablecoin’s dollar peg, the Luna Foundation Guard (LFG), a nonprofit that supports the Terra network, shifted all of its holdings to Bitcoin exchanges. The bitcoin reserve balance of LFG is now zero.

Tether (USDT), the first stablecoin, has suffered as a result of the negative opinion. Tether fell to $0.97 during Asian trading hours, losing its peg to the US dollar, but has since recovered to $0.99. Even being a penny short of its dollar peg is concerning.

Crypto is now strongly tied to equities.

Many cryptocurrency investors say that Bitcoin is a digital-era version of gold, a potential flight-to-safety investment and inflation hedge. However, cryptocurrency price behavior implies that the market does not regard these extremely volatile assets as reliable stores of wealth during times of economic instability.

Gold has historically had an adverse association with stock prices, which has so far played out as expected in 2022. While stock prices have declined, gold is up about 3% in 2022, while the S&P 500 is down around 16% year to date.

Fears of chronically rising US inflation and the possibility of extraordinarily harsh Fed actions to combat it have fueled stock market selling pressure. The consumer price index (CPI) increased 8.3 percent year on year in April, the greatest level of inflation in the United States since 1981.

Earlier this month, the Fed hiked interest rates by 50 basis points to a new target range of 75% to 1%. Fed Chair Jerome Powell stated in his post-announcement press conference that more 50 basis point increases were on the table for the next two FOMC sessions.

Beginning in June, the Fed will allow $30 billion in US Treasury bonds and $17.5 billion in mortgage-backed securities to leave its balance sheet.

According to Brian Price, Commonwealth’s senior vice president of investment management and research, the path of least resistance in risk assets remains to the downside for the time being.

“The overwhelming focus continues to be on inflation, rising interest rates, and the war in Ukraine,” says Price. “The market is void of major positive catalysts right now, so it is not surprising that we’re starting the week off under pressure.”

The stock market sell-off confirms that investors are looking for shelter from the possible negative economic impact of the Fed’s tightening, but not in the crypto market.

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