In this video clip of “The Crypto Show” on Motley Fool live, recorded on February 23fool contributors Jon Quast and Travis Hoium discuss public blockchain protocol Earth (CRYPTO: LUNA) and its recent sale to avoid a very rare event with significant consequences.
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Jon Quast: What’s so interesting here is the real-world utility. What is that? This is the stablecoin, TerraUSD. This is supposed to always be worth one US dollar. What’s the benefit? Why not just use a dollar? Well, if you’re using a dollar online, credit card purchases are likely hit with a 3% fee. In contrast, TerraUSD can reduce this to less than 1%. There is an incentive here to use this coin, especially if it can be a stablecoin.
The way he does it, the way he maintains it with no reservations is that he has this other piece called LUNA. As the value of a TerraUSD deviates by $1, you can switch between LUNA. New coins are burned and created in the process and this regulates the supply and demand of the TerraUSD so that the supply is always in line with the demand so that the price is at a dollar which is really interesting it has worked so far over time. What’s going on? The Founders talk about it here, we are concerned, we are aware of the possibility of a “black swan” event. You know that term, Travis, don’t you?
Travis Houm: Yeah. Very much an aberrant event.
Quest: I believe the term was coined by Nassim Nicholas Taleb, the author of Antifragilealso author of Black Swan. I believe he coined the term. Basically, it’s a very rare event with significant consequences. I think it can be summed up like this. There are scenarios. Let’s say the whole cryptocurrency market is crashing.
For some reason something happens and there is not a single coin going up, they all drop double digits in a short time, in this scenario there is theoretically an arbitrage opportunity for TerraUSD , but no one is ready to take advantage of this opportunity as the whole cryptocurrency world is collapsing. In this scenario, the stablecoin will lose its peg and in doing so, trust in the whole system will be lost. If he can’t maintain that dollar parity, then no one will be incentivized to use him.
This has never happened so far, but it could theoretically happen. The founder is here saying, “You know what, let’s keep some reserves on hand that we can deploy to remedy the situation if this one-in-a-million situation occurs.” Just what they were able to do, they were able to sell a billion LUNA tokens. Now, if you’re holding LUNA tokens, that probably sounds a little confusing because all of a sudden there’s all of these tokens being held by these private investors.
Well, they’re required to hold them for a four-year vesting period. They’re not just going to go ahead and throw them into the market by knocking down the price of LUNA, that has a timing element in place. It’s time to develop this whole ecosystem here. With this billion dollars, Terra’s LUNA Foundation Guard will buy Bitcoin (CRYPTO: BTC) and other altcoins and keep them in reserves.
They are fundamentally different from the US dollar, a government-backed currency. The thought process here is that if we have any of these outlier events, we will have funds that will be diversified and ready to go to maintain confidence in the system and one dollar TerraUSD.
Hoium: My question is if the black swan event is that there is a correlated selloff in all of these digital crypto assets, and your answer is to buy assets that would also be correlated to this selloff. It seems a bit strange to me.
The argument here, I think from their perspective, would be that Bitcoin is a hedge. But we’ve seen over the past six months that Bitcoin really trades more like a high-risk asset than a growth stock like the board is supposed to. Inflation is rising, the value of Bitcoin is falling. If it was a hedge, we should see the opposite happen.
In the same way, that’s what the financial crisis of 2008-2009 taught us, is that you own bonds instead of all stocks, but stocks were down and bonds were down. There was no safe place, there was no uncorrelated asset. I think that’s just an interesting thing to point out with that, that I understand why they think that would be a good hedge or a safety net, but if Bitcoin falls from where it is today at $5,000, so I don’t see how that answers the problem at the end of the day.
Quest: I think that’s really fair, Travis. To be honest with you, I don’t know if they’re thinking of other black swan scenarios as well. The reasoning, the argument that I read was that the whole cryptocurrency market is crashing, and this is the black swan event that we are hedging for. I don’t know if they have any others in mind, because to you it sounds a bit like circular reasoning.
If everything is tanking, then Bitcoin itself would not be tanking. I think that’s really fair. I guess at the same time Bitcoin probably wouldn’t be worth zero. They would still have some firepower to work with to get their ankle in order, but that’s an interesting point and a well-understood point there.
Hoium: Their responses to regulators have been interesting as regulators try to delve into what they do and how they anchor against other stablecoins.
Jon Quast owns Bitcoin. Travis Hoium has no position in the stocks mentioned. The Motley Fool owns and recommends Bitcoin and Terra. The Motley Fool has a disclosure policy.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.