Crypto venture firm’s lessons after $10 million haircut on LUNA losses

What can investors learn from the collapse of LUNA? Here’s one research team’s take…

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Around a week ago, the Terra (CRYPTO: LUNA) began its deathly descent following the de-peg of its connected stablecoin TerraUSD (CRYPTO: UST).

Due to the cryptocurrency’s algorithmic stabilising mechanism, a huge influx of new LUNA tokens were minted. What followed was a monumental collapse in value as the price of the crypto plunged from US$65 to 1 cent in a matter of days.

As the dust begins to settle on one of the largest failings since the inception of crypto, the damage toll is becoming clear. Prominent crypto research firm Delphi Digital has revealed a colossal $10 million unrealised loss on its own LUNA investment.

Before we dive into the learnings, if you are looking for a more in-depth explanation of what led to the destruction of LUNA, my colleague Bernd covered this here.

Lessons from LUNA crypto collapse

In a public release, one of the top three crypto research firms provided insights into how a $40 billion project was brought to its knees.

According to the firm, the opportunity painted by the fast-growing cryptocurrency always came with evident risks. However, Delphi admitted that the extent of these risks was not fully understood at the time.

The research team explained two main factors in the undoing of LUNA. These were:

  • an unsustainable 20% annual yield on Terraform Labs lending platform, Anchor Protocol; and
  • a lack of adequate collateralisation to protect against a ‘bank run’ of sorts.

On the first point, the high yield incentive created an imbalance between depositors and borrowers. This meant the creators of Terra, Terraform Labs, had to front the extra capital to pay out depositors.

At the same time, the lack of collateral posed a risk in the event of mass withdrawals from the Terra ecosystem. Though, Delphi’s nerves were eased when the Luna Foundation Guard (LFG) acquired US$3 billion worth of Bitcoin (CRYPTO: BTC) to protect against this.

Ultimately, the acquired collateral was not enough to insure the US$18 billion worth of funds tied up in the UST stablecoin. This meant a well-constructed attack to exploit this weakness ended up being successful.

Where does Delphi stand now?

Due to the structuring of Delphi Digital, the research firm is unscathed. However, the venture arm made a $10 million investment in LFG in February which is effectively worth zero now.

Fortunately, Delphi was not overexposed to the LUNA crypto, making up only about 13% of net asset value at its peak.

At the time of writing, LUNA is valued at 0.01 cents per token.

Motley Fool contributor Mitchell Lawler has positions in Bitcoin. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has positions in and has recommended Bitcoin. The Motley Fool Australia has positions in and has recommended Terra and Bitcoin. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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