Why is another stablecoin losing its peg not ‘Terra 2.0’?

Cryptocurrencies have been under immense pressure after the collapse of a supposed stablecoin called terraUSD.

Umit Turhan Coskún | Nurphoto via Getty Images

A controversial stablecoin launched just before the collapse of a similar token called terraUSD is struggling to maintain its peg to the US dollar.

USDD, a so-called “algorithmic” stablecoin that should always be worth $1, fell to a low of 93 cents on Sunday. The coin’s creator has amassed a stash of bitcoin and other digital tokens worth close to $2 billion to provide a cushion in case investors flee en masse.

The situation has raised fears that USDD could suffer the same fate as terraUSD, or UST, the destroyed so-called stablecoin that was part of an experiment called Terra. The collapse of UST triggered a cryptocurrency sell-off, which has been exacerbated in recent weeks by a growing liquidity crisis in the market.

The Tron DAO Reserve, which oversees and manages the stablecoin, said a certain degree of volatility in USDD price was to be expected given its “decentralized” nature.

“Some percentage of volatility is unavoidable,” the organization tweeted last week. “Currently, the market volatility rate is within +- 3%, an acceptable range. We will watch the market very closely and act accordingly.”

USDD was trading around 97 cents on Wednesday.

Despite concerns about a repeat of the Terra saga, experts say this is unlikely to be the case as USDD is much smaller and has seen little uptake from crypto investors.

What is USDD?

USDD was released in early May, days before UST started falling below $1. Over the past week, it has consistently traded below its expected dollar parity amid increased selling.

Instead of sitting on piles of cash and other cash-like assets, USDD runs a complex algorithm, combined with a related token called tron, to maintain a one-to-one peg to the dollar.

If that sounds familiar, that’s because the Terra UST operated in the same way, creating and destroying units of UST and a sister coin called luna to get around the need to have reserves to back the stablecoin.

Another similarity that USDD shares with UST is that it has amassed a sizable cache of other digital tokens to help boost its price should investors pull out en masse. Terra bought billions of dollars worth of crypto in an effort to keep its stablecoin afloat, a move that ultimately proved futile.

USDD’s use of cryptocurrencies as reserves exposes it to “UST-like risks,” said Monsur Hussain, senior director of financial institutions at Fitch Ratings.

“Cryptocurrencies are generally price correlated in times of turmoil,” he added.

USDD also offers investors unusually high interest rates (up to 39%) on their USDD deposits. Anchor, a crypto lending platform, similarly touted returns of up to 20% on UST holdings, a rate many investors now say was unsustainable.

The coin was created by Justin Sun, the outspoken crypto entrepreneur behind Tron, a blockchain trying to compete with Ethereum. Like Do Kwon, the founder of Terra, Sun has often used Twitter to promote his projects and challenge critics.

The Chinese-born businessman has been involved in numerous controversies and publicity stunts in the past. In 2019, he paid $4.6 million to have lunch with Berkshire Hathaway CEO Warren Buffett, then abruptly canceled. Lunch finally took place in 2020.

not another earth

However, upon closer inspection, it is clear that there are some notable differences between USDD and UST.

For one thing, USDD is nowhere near the scale of Terra, whose UST and luna tokens were worth a combined $60 billion at their peak. So it would be unlikely to have the same effect if it were to collapse, according to analysts.

“USDD does not have the weight to cause the same wake of destruction that UST did,” said Dustin Teander, a research analyst at crypto data firm Messari.

He added that USDD is not as widely used as UST was before its demise.

According to public blockchain records, about 10,000 accounts hold the token on the Tron network, while just over 100 accounts hold it on Ethereum.

If USDD were to collapse, “it would not result in the same degree of contagion or fear as when UST/LUNA collapsed,” Hussain said.

And unlike UST, which was only partially secured by crypto, USDD claims to be over-collateralized, meaning its assets always exceed the number of tokens in circulation.

The Tron DAO Reserve says that its reserve contains more than $1.9 billion worth of bitcoin and other tokens, including the USDC and tether stablecoins. USDD has an offer of approximately $700 million. That reduces the chance of a Terra-style collapse, according to Teander.

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