Stablecoin Selloffs Accelerate with Severe Shocks

Researchers from Renmin University of China used large language model agents to study how stablecoins respond when negative information hits the market. They found that a severe shock can quickly turn into a much deeper selloff, even if the stablecoin initially remains stable through ordinary bouts of bad news.

The researchers discovered that selling can remain manageable at first, but then accelerate once it reaches a certain level. Small price gaps can attract arbitrage traders who buy the stablecoin and help push it back toward its pegged value of $1.

However, if a larger shock drains available liquidity and keeps investors selling, arbitrage traders may become less willing to step in. This can create a vicious cycle where fear, thin liquidity, and heavy retail selling reinforce one another.

The researchers' findings were illustrated by the March 2023 USDC crisis, during which investors sold the token after concerns emerged over its reserves. The weekend limited access to redemptions, causing USDC to fall below $1 before recovering its peg.