The 2022 contagion

Wonder

1. How did a stablecoin failure ignite a chain reaction across major lending firms?
2. Why did claims on paper turn out to be the same coins counted multiple times?
3. What specific mechanism allowed leverage to spread from one fund to its lenders?

Explore

1. The contagion of May and June 2022 began with Terra. Its algorithmic stablecoin, UST, lost its peg in May 2022, causing the collapse of LUNA (lesson 6.2.5). This event exposed a critical vulnerability: funds that held large positions in LUNA faced immediate insolvency. Three Arrows Capital, a major trading firm with significant exposure to the asset, could no longer meet its obligations.
2. On June 12, 2022, Celsius Network halted withdrawals for all customers, citing extreme volatility and liquidity constraints in the crypto markets. This was not merely a pause; it was a freeze on assets held by thousands of users. Celsius had losses and illiquid positions of its own, including staked ETH that could not yet be redeemed. Three Arrows’ largest lenders included Genesis, Voyager and BlockFi, and its default spread through all of them.
3. Voyager Digital, which had lent about $650 million to Three Arrows, filed for bankruptcy on July 5, 2022. The mechanism was identical: customer deposits were lent out to generate yield, but the collateral backing those loans evaporated. As each firm failed, its creditors discovered that their claims were not backed by unique assets but by overlapping pools of coins already pledged elsewhere.
4. The final blow came in November with the collapse of FTX and Alameda Research (lesson 6.3.2). BlockFi, which had lent to other firms in the ecosystem, filed for bankruptcy on November 28, 2022. The entire structure relied on a circular flow of capital: Firm A lent to Firm B using deposits from its own users, who expected yield based on that lending activity.
5. The critical insight is that ‘yield’ in these platforms was often generated by lending customer coins to other entities within the same fragile network. When one node failed, the claims held by others were not distinct assets but duplicate counts of the same underlying coins. This circularity meant that total liabilities across the sector exceeded the actual value of the assets backing them.
6. Bitcoin held in self-custody remained untouched by this contagion because it was not a creditor to any of these firms. Users holding keys directly did not suffer from the insolvency of exchanges or lending platforms. This distinction highlights a fundamental trade-off: centralized yield-generating services offer convenience and returns but introduce counterparty risk, while self-custody eliminates that risk at the cost of active management.

Key facts

Exercise nine, six, three, one

Fact check

Dates, figures and claims checked against the published sources listed below.

• CoinDesk reporting (June–Nov 2022)
• CNBC reporting (June–Nov 2022)
• US Bankruptcy Court dockets for Celsius Network, Voyager Digital, and BlockFi
• Three Arrows Capital liquidation order (BVI, June 27, 2022)