This is not what people signed up for.
Not too long ago, investors were drawn to cryptocurrencies as an alternative to the stock market.
'The Era of Free Money is Over'
They believed that their crypto holdings could act as shelter in the event of a stock market slide and that their traditional holdings would do the same if crypto prices went south.
However, the wall between the two has crumbled and cryptocurrencies have been moving in the same direction as the stock market. And, lately, the direction has been down.
"The era of free money in America has come to an end, and cracks are appearing in all kinds of financial markets – including crypto assets," said Winston Ma, managing partner of CloudTree Ventures, Author of "The Digital War – How China’s Tech Power Shapes the Future of AI, Blockchain and Cyberspace."
John Kicklighter, chief strategist at DailyFX, said that "as general capital markets slide, so to has the argument that unique and novel assets are disconnected from the natural ebb and flow of speculative appetites."
"Having already seen the falter in conviction around retail crowds’ ability to drive meme stocks against the prevailing currents as well as the disruptive virtues of tech companies, we are now seeing the systemic threats reach deeper into the crypto market," he added.
The International Monetary Fund looked at this issue in January blog post after another crypto price drop, noting that "before the pandemic, crypto assets such as bitcoin and ether showed little correlation with major stock indices."
"They were thought to help diversify risk and act as a hedge against swings in other asset classes," the IMF said. "But this changed after the extraordinary central bank crisis responses of early 2020."
'Critical Infrastructure for the Crypto System'
Cryptocurrencies have been tumbling recently when the stablecoin UST and its sister coin Luna lost nearly all their value.
A stablecoin is a digital currency whose value is pegged to a fiat currency like the euro or the dollar.
Ma said stablecoins are the critical infrastructure for the crypto system, acting "as a bridge between individual users, who use dollars in conventional banks, and the 'on-blockchain' world, where people use crypto."
UST and Luna are the main tokens of the Terra protocol, a decentralized and open-source public blockchain protocol for so-called algorithmic stablecoins, which are backed by a computer code instead of traditional collateral like cash.
When the price of UST decreases, owners can resell their assets to Luna Foundation Guard in exchange for $1. This way, the stablecoin reserve decreases, thus increasing its value until it returns to a normal level.
But the system does not take into account situations where users redeem huge amounts of their UST at once in a short period. Meanwhile, tether, the world's biggest stablecoin, briefly lost its one-to-one US dollar peg last week.
On Monday, May 16, the Luna Foundation Guard, a non-profit organization formed to support the growth of the Terra ecosystem, said it had over 80,000 bitcoin and has just 313 in reserves.
"The Foundation is looking to use its remaining assets to compensate remaining users of $UST, smallest holders first," the foundation said in series of tweets. "We are still debating through various distribution methods, updates to follow soon."
'Laser Locked Focus by Regulators'
UST was off 6.6% to $0.079323 at last check, was down nearly 92% from just a week ago, according to CoinGecko. Bitcoin was down about 1% to $29,685.50, while ether lost 1.1% to $2,007.63.
The losses and uncertainty surrounding the cryptocurrency sector have increased calls for regulation.
Earlier this month, the Securities and Exchange Commission said it was nearly doubling the size of its Crypto Assets and Cyber Unit by adding 20 additional positions to the unit.
Treasury Secretary Janet Yellen has maintained that stablecoins pose a threat to financial stability and called for increased regulation.
"Stablecoins and exchanges have both sealed their fates and insured a laser locked focus by regulators," said David Lesperance, managing partner of immigration and tax adviser at Lesperance & Associates, adding that "SEC Chairman Gary Gensler has pointed out that cryptocurrency exchanges don't act in clients' best interests."
Ma had a similar view, saying "that as the crypto infrastructure cracks, the U.S. government may accelerate its push for stablecoin regulation."
Kicklighter said that "while traders will be on high alert for other similar troubles in the space; regulators have a far more provocative claim to exact stricter controls in this space."
"I will repeat my view that when crypto is fully adopted by policymakers and the market alike, it will likely turn into a space that is far more boring – almost utility-like," he said. "It is the extreme volatility that attracts traders and zealous regulators alike."
