Bitcoin investors are panicking because the terraUD stabilcoin is losing stability and slips beyond its intended $1 hook. On Monday, TerraUSD or UST fell below 70 cents, and on Tuesday it fell to 62 cents. On Thursday, stabilcoin regained its position at 90 cents, according to CNBC

TerraUSD was created at Singapore’s Terraform Labs in 2018. It is called algorithmic stabilcoin. As part of the Terra blockchain project, it had to match the price of the dollar, like other Tether and USDC stabilcoins.

However, unlike these cryptocurrencies, Terra has no cash or other assets in reserve to support its token. Instead, it uses a complex mix of code along with its sister Luna token — to stabilize prices. 

Importantly, Bitcoin investors, such as the Luna Foundation Guard, an organization that supports the Terra project, have billions of dollars in Bitcoin that could potentially be dumped on the market at any point.

“Every professional investor in crypto has one eye on UST today, watching to see if it can keep its hook to the dollar. There is clearly significant risk in the market,” said Matt Hogan, chief investment officer at Bitwise Asset Management.

To adjust the supply, Terra destroys and creates new UST and Luna units. When the price of the UST falls below the dollar, it can be withdrawn from circulation and replaced by the Luna, making UST supplies more scarce and rising. At least that’s how it should have worked. 

To further complicate the situation, the creator of Terra bought $3.5 billion worth of Bitcoin to provide UST support during the crisis. In theory, UST could be redeemed for Bitcoin instead of Luna – but this option has not yet been tested.

On Monday, Kwon’s Luna Foundation Guard said it would lend $ 750 Million worth of bitcoin to trading firms to “help protect the UST hook,” while a further 750 million UST will be lent out to buy more bitcoin “as market conditions normalize.” 

In the after-up tweet, the company said it had seized 37,000 Bitcoins worth more than $1 billion at current loan prices. Very little borrowed bitcoin has been spent, but it is currently being used to buy UST.

Several crypto-investors are concerned that Luna Foundation Guard is likely to have sold or will sell a large share of bitcoin to support UST. Against the background of general uncertainty, the decline in the UST has caused unrest throughout the cryptocurrency market.

Bitcoin, the world’s largest digital currency, briefly fell below $30,000, reaching its lowest price since July 2021. The cost of Luna has fallen by about half in the last day. Binance also added problems to UST owners by suspending UST and Luna withdrawals “due to a high volume of pending withdrawal transactions”. Now the possibility of withdrawal has been restored. 

“I think the market is expecting some forced selling here on the part of Terra and the reserve. It’s a disaster but very expected. No stabilcoin algorithm has ever succeeded and this is no exception,” says Nick Carter, co-founder of Coin Metrics.

He also notes that the problem with UST is that it is largely based on faith. Obviously, it is not fully backed by reserves, but was backed by faith in the issuer.