Rehypothecation is treated in full under collateral rehypothecation, which covers the legal rules, examples and the role it played in past crises. This page explains the single word, which is how the practice is usually described in brokerage agreements and crypto lending terms.
When a client borrows money from a broker or bank, they often pledge assets as collateral, a step known as hypothecation. Rehypothecation happens when the lender then reuses that same collateral, for example by pledging it to its own lenders or lending it out to others. This lets the same pool of securities support several layers of credit and lowers funding costs, which is why prime brokers rely on it.
The risk is that if the firm in the middle fails, the client may struggle to get the original assets back. The 2008 collapse of Lehman Brothers left some hedge fund clients facing long delays for this reason. In the United States, broker-dealer reuse of client securities is limited by SEC rules, while UK and EU rules have allowed wider reuse with client consent.
In crypto, several lenders that failed in 2022 had reused customer deposits in ways customers did not expect, and their terms of service were later examined in bankruptcy court. Questions about reuse also arise with crypto custody and with commingling of client assets.