Rehypothecation

In traditional finance, brokers may reuse a client's pledged securities within legal limits to fund their own borrowing. In crypto, lenders and exchanges did something similar with far fewer rules: bitcoin posted as loan collateral or deposited in yield accounts was lent to trading firms, posted as margin elsewhere or used in DeFi strategies, generating the returns the platform paid out.

The practice turned a local failure into a chain reaction in 2022. Collateral that had been re-lent several times was not available when customers asked for it back, and platforms such as Celsius and the lending arm of Genesis froze withdrawals after counterparties defaulted. The same coin effectively backed several claims at once, so losses spread quickly once one link broke.

Rehypothecation is not always hidden or illegal; it is often permitted in the terms of service, which few users read. Regulations adopted since then, including segregation requirements for custodians, limit it for many licensed firms. Before depositing, users should check whether the platform may reuse their assets and whether those assets are held separately from company funds.