Teun Kerkhof - 22 December 2021

The moon is rising: LUNA price discovery

The token LUNA has been on a tear recently as it has been breaking ATH after ATH. The token is now trading around $95 and is now valued 150 times higher than at the start of this year. How did this token achieve this? Why is it valued so high? In this blog post, we will be going over a few key things that have driven LUNA to these price levels. 

A Layer 1

The LUNA token is used within the Terra blockchain to pay for transactions. The Terra blockchain, just like Ethereum, has a smart contracts platform that allows for the creation of decentralized applications. This past year smart contract blockchains, also referred to as Layer 1s (L1s), have been the most profitable projects. 

L1s present a better scalable and cheaper alternative to the Ethereum network. On these networks, dApps facilitate users with all kinds of services and products. Ethereum is by design a Proof-of-Work blockchain and due to the network being in high demand, users pay a lot of transaction fees. 

Alternative Layer 1s have taken the cake this year by presenting faster and cheaper transactions and thanks to useful dApps, a lot of the activity migrated from Ethereum to chains, like Solana, Avalanche, and Terra. 

Stablecoins

The Terra network has a very distinct key component and it sets itself apart from other blockchain networks with its ‘native stablecoins’. This category of tokens is basically tokenized fiat currencies on the blockchain, representing their real-world counterpart. The beauty is that the stablecoins on Terra are all completely decentralized. There is no central party in the custody of collateral to ensure the peg, rather the value of the Terra stablecoins is derived algorithmically. Currently, almost all the large fiat currencies are available on the blockchain, from the dollar (UST) to the Korean Won (KWT) and from the Euro (EUT) to the Swiss Franc (CHT). 

In order to issue new stablecoins, LUNA needs to be burned and vice versa. This system allows anyone to perform arbitrage to keep the stablecoins at their peg. 

Take for example the stablecoin UST that is pegged to the dollar. In case UST is trading above peg ($1.01), it reflects that there is a higher demand for UST than there is supply. This creates an arbitrage opportunity and users can profit off this by minting UST through burning $1 worth of LUNA. 

On the other hand, if the supply exceeds demand for UST and UST loses peg, an opportunity is created for users to burn UST and redeem $1 worth of LUNA.

The growth of crypto is inherently connected to growth in stablecoins. As demand for crypto increased over the year, so did the demand for stablecoins as those are needed to escape volatility and facilitate trade. 

The same is true for LUNA stablecoins. As the network became more popular, the Terra native stablecoins were used more as well. To meet the new, higher demand for Terra native stablecoins, more LUNA had to be burned. The burning of LUNA restricts the circulating supply of the token and results in the current bullish price movements of LUNA. 

Ecosystem

Another major catalyst for the current price movements of Terra is the launch of certain projects on the chain. As mentioned earlier in this post, the Terra blockchain is a smart contract on which developers can build all kinds of decentralized applications. These blockchains often have a vibrant, active DeFi ecosystem. In this regard, Terra was lagging behind Solana and Avalanche, which already have very active and large DeFi markets. The main cause is that smart contracts on Terra are coded in Rust and not in Solidity like many other chains. Coding essential DeFi dApps thus took longer to create, but finally, two highly anticipated projects are launching on Terra: Astroport (DEX) and Mars Protocol (money markets protocol). 

The expectation is that these two projects will really make a difference on the Terra chain as they add two majorly missing aspects to the chain: a well-functioning DEX (Astroport) and a P2P borrowing/lending platform (Mars). Both projects are made by Delphi Digital and CoLab Ventures, two well-respected names within the crypto industry. The initial launch of Astroport went very smoothly and over $1bln worth of liquidity was bootstrapped. 

The two projects are going to drive even more capital and users to the chain as they add new yield generating strategies and make the chain a way better experience in terms of utility. 

Summary

The price action of LUNA can be explained by three major fundamental factors: the increased popularity of L1s, the stablecoin mechanism on the Terra blockchain, and the launch of important DeFi projects. 

The future is green for LUNA as more projects will be launching on the blockchain. These projects will help bring more adoption to the network. We expect the Terra blockchain to grow significantly over the coming months.