The 3.5 day method has been proven pretty effective in handling price drops whenever we haven't been close to the haircut being hit.

I don't believe you need the conversion mechanism itself to handle every short term price swing, and if you do, then why are short term increases above the peg more important than decreases below the peg? Short term trading and market making can handle short term swings as long as there isn't a persistent imbalance.

Also, in proposing the 5% spread (which I agree with), you are implicitly designing this to NOT handle short term swings, but instead of address large persistent imbalances. In that case, 3.5 days should work just fine to get the supply moving in the right direction (even if not instantly), as it does on the down side.

Likewise the minimum function in your formula which will penalize (discourage) conversions if the price was lower in the past. This has to be seen as a longer term measure to adjust supply.