Central Banks' Central Bank Warns About Rehypothecation Threats

Tyler Durden's picture

Just a few years ago, central bankers dared not breathe the word rehypotehcation - after all it was the secret fabric that held the shadow banking system together, which was a critical hub to perpetuating the central bankers' plan of reflating assets and creating a wealth effect if only for the 1%, while keeping the rest content with free Obamaphones and endless promises of "trickling down" which four years into Bernanke's grand monetary experiment has yet to materialize. Then, little by little, more and more started to realize that the shadow banking system, whose fiath-based (sic) liabilities amount to somewhere between $60 and $100 trillion (of credit money) globally, is precisely the inflation buffer that has allowed central banks to engage in round after round of QE, which has sent global stocks to all time highs, while keeping the world mired in the longest economic depression since the 1930s (explained here).

Of course, the one inadvertent side effect of all this constant meddling which be definition requires the monetization of quality collateral in order to generate new fungible money, was the gradual disappearance of all such quality assets which private investors could buy, then pledge back via repo and other conduits and use proceeds for risky investments. Such as Treasurys. Which is why recently none other than the TBAC warned that the US is suddenly facing a $10+ trillion high quality collateral shortage in the next decade. As we have also explained, this is a major problem for the Fed which at current rates of QEeing, will monetize all Treasury duration exposure in roughly 5 years - at that point there will be virtually no collateral left and the Fed will be finally out of both tools and ammo. Which in turn is why the Fed is desperate to restore the "moneyness" of assorted private sector assets in the time it still has with QE, and convert them to "high quality collateral" status, or eligible for repo and money creation via conventional bank conduits.

Indeed, the TBAC admitted as much in the confidential appendix to its Q2 slide presentation to the US Treasury when it said:

Private sector generation of moneylike collateral helps policymakers over long periods by:

  • Slowly reducing the demand for money
  • Increasing financial deepening
  • Supporting financial globalization

The more restricted the private sector’s ability to create safe, liquid, and moneylike collateral, the harder the public sector must work to supply it through deficits and easy monetary policy.

We will have more to say on this in a future post when we discuss just what the real catalysts for the Fed's unwind are (hint: nothing to do with the market, and nothing to do with inflation or unemployment) and what Ben Bernanke is seeking to accomplish. It is a fascinating topic, and one which we are confident means Bernanke's replacement will be none other than... Bernanke.

But before we go there, a key thing to ponder is that in all activities involving shadow banking, and now that quality collateral, in its definition of being "accepted by all", is scarcer than ever, involve the rehypothecation of certain assets using collateral chains of assorted lengths, which in turn dilute the links of title and ownership between owner and owned, in some cases (like MF Global and Lehman) to infinity, in effect confiscating an asset and plunging it into the bottomless abyss of the shadow banking system.

Furthermore, as we reported recently, none other than Europe has started a crack down on rehypothecation. We are confident that once Deutsche Bank et al realize that this may in fact be serious - a development which would, if completed, collapse their ability to operate on shadow margin and extend their asset base, they will promptly put an end to the silliness.

However, the good news is that with every incremental public instance of the rehypothecation discussion, more are focusing their attention on just how it is that true credit money creation works in the modern world (hint: nothing at all like how the textbook monetarists, Magic Money Tree growers, and all those others who still rely on economic concepts developed in the 1980s and before think).

The most recent, and perhaps most notable, observation on the topics of asset encumbrance, collateral and rehypothecation was none other than the BIS with its just released report titled appropriately enough, "Asset encumbrance, financial reform and the demand for collateral assets." In this report, variants of the word "rehypothecate" appear no less than 24 times. More importantly, the whole point of the paper is to serve as a warning, which means that slowly but surely the world's bankers are finally willing to expose in broad daylight (ironically), the true risks permeating the real financial system located deep in the shadows, where maturity, risk and collateral transformation all take place, however without the nuisance of deposits. Whether this is so they can abuse it all over again (most likely) or out of actual altruistic (unlikely) motivates, is unclear.

However, for those still confused by what remains a very nebulous topic for most, here is what the BIS has to say on the key topic of rehypothecation and its assorted instances in modern finance.

Rehypothecation and reuse of collateral assets


Rehypothecation refers to the right of financial intermediaries to sell, pledge, invest or perform transactions with client assets they hold; and it allows prime brokers and other financial intermediaries to obtain funding using their client collateral. Collateral reuse, in turn, usually covers a broader context where securities delivered in one transaction are used to collateralise another transaction, including the ability to reuse collateral through change in (temporary) ownership. Yet the terms rehypothecation and reuse of securities are often used interchangeably; they do not have distinct legal interpretations.


Certain types of collateral rehypothecation (and reuse) can play an important role in financial market functioning, increasing collateral velocity and potentially reducing transaction and liquidity costs. Rehypothecation decreases the (net) demand for collateral and the funding liquidity requirements of traders, since a given pool of collateral assets can be reused to support more than one transaction. This lowers the cost of trading, which is beneficial for market liquidity.


Securities lending-type transactions (including collateral swaps), which have been structured as collateralised loans, would not exist without rehypothecation. In the repo market, participants would not be able to cover short positions without the ability to reuse collateral. However, repos do not directly rehypothecate collateral because they are structured as a sale and repurchase transaction.


While certain types of rehypothecation can be beneficial to market functioning, if collateral collected to protect against the risk of counterparty default has been rehypothecated, then it may not be readily available in the event of a default. This, in turn, may increase system interconnectedness and procyclicality, and could amplify market stresses. Therefore, when collateral is rehypothecated, it is important to understand under what circumstances and the extent to which the rehypothecation has occurred; or in other words, how long the collateral chain is.

And some of the more vocal warnings:

A particular aspect that has received considerable scrutiny in the policy debate on securities financing markets is the extent to which rehypothecation activities should be permitted. The recent crisis experience suggests that greater reliance on rehypothecation in financial intermediaries’ balance sheets will increase interconnectedness and make them more vulnerable to financial shocks. Rehypothecation of client assets can also delay the recovery of assets or even impose losses on beneficial owners. In addition, it can prompt intermediaries to build up leverage in good times, contributing to increased procyclicality of the financial system.

But most importantly:

Financial intermediaries should provide sufficient disclosure to clients when collateral assets posted by them are rehypothecated; rehypothecation should be allowed only for the purpose of financing the long position of clients and not for financing the own-account activities of the intermediary; and only entities subject to adequate regulation of liquidity risk should be allowed to engage in the rehypothecation of client assets.

Ironically, using rehypothecation for the purposes of financing the own-account activities of the intermediary, is precisely what happens every single day in every single, and certainly TBTF large (see JPM) bank.

Could it be that some of the forces behind the bank of central banks are starting to realize just how close to the precipice the world truly is and are now actively cautioning their private sector peers to step back from the ledge or everyone gets it?

If so, and here is a chance this is true, we expect to see one of the most epic public-private sector conflicts in financial history, because in a world rapidly devoid of collateral and quality assets against which to margin and build leveraged operations, without rehypothecation the ability to generate mindnumbing bonuses for the banker superclass becomes null and void.

And after all, preserving the cash flow associated with levering every possible asset as many times as inhumanly possible and wagering it, preferably with zero risk, in a coopted and manipulated market, is what it is all about...

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Mongo's picture

Straight from the horses mouth...

prains's picture

you mean the bunny...

greased up deaf guy's picture

THANK YOU... for not teasing us with another bait and switch (jpg hyperlinked from the zh homepage). lol

kliguy38's picture

Call it what it is FOCHIN' stealin'...but since you've been warned, its OK

FL_Conservative's picture

Like they give 2 shits about the chain of collateral when their plan is to be long gone.....on the beach sipping margaritas.....when TSHTF.  Repercussions?   That's the taxpayers' problem.

Manthong's picture

Is that anything like liquidity from a  repo of a swap of collateral referenced to a  reserve of a gold receivable ?

macholatte's picture


RE-Hypo-Hype ......

Fred lends Bill his car to go to the grocery store. On the way Bill stops off at Pay-Day Loans and borrows $1,000 using Fred's car as collateral. Pay-Day sells the loan to GS who uses the money in Fred's account to buy the loan.

A week later Bill gets killed by a crack dealer, the loan never gets repaid, Fred's car is seized and his account at GS is Corzined.  Pay-Day and GS get a .gov bailout, Fred's car is sold at auction, and Fred's account at GS is vaporized as an unintended consequence without malice which makes it OK. Pay-Day and GS make generous donations to political parties. The Fed prints some extra money to cover the costs of the transactions and makes it part of the public debt. The tax payers are screwed, the lenders are made whole and Fred has no wheels, is broke, goes on food stamps and disability.

Or did I miss something?

prains's picture


you wake up with a corn hole aching and bleeding and asking WTFH

Buck Johnson's picture

Exactly, buy the time the economy implodes the govt. will be taking money out of your own accounts along with gold and treasures just to stay afloat.  They won't care what the big money guys have done as long as they left before they could get their hands on the money.

bank guy in Brussels's picture

Bigger version of the pic of the ZeroHedge 'rabbit out of hat' girl with her pretty blue bra:


freewolf7's picture

Bunnies breed like bankers rehypothecate.

auntiesocial's picture

when mainstream drudgereport is reporting the dollars world reserve currency status is in jeopardy you know it is already too late. 10K gold here we come!



Burt Gummer's picture

Anyone know what Ameriprise Financial's policy on Rehypothecation is?

digitlman's picture

"yet to metarilize"



Variance Doc's picture

You can always ask for your subscription fees back if you are not completely satisfied, dumbass.

ebear's picture

Metastasize + Materialize

Def:  to become apparent only at a point when nothing can be done about it.

buzzsaw99's picture

You fargin ungrateful bastage. I'm gonna take your dwork. I'm gonna nail it to the wall. I'm gonna crush your boils in a meat grinder. I'm gonna cut off your arms. I'm gonna shove 'em up your icehole. Dirty son-a-ma-bitchez bass turd muther farking...

dynomutt's picture


Fargin Iceholes

Agent P's picture


Spell Checker?

LawsofPhysics's picture

Perhaps someone should "warn them about the dangers of guillotines" with a possible demonstration...

The Master's picture

"and could amplify market stresses" = the biggest understatement of all time

TheSilverJournal's picture

And there it was...gone.

Its_the_economy_stupid's picture

I am getting depressed again.

TheSilverJournal's picture

Great imbalance means great opportunity.

NotApplicable's picture

As I always tell people, "Look around. You SHOULD be depressed."

buzzsaw99's picture

Corzined bitchez.

youngman's picture

I don´t think they should be able to rehypothecate at all.....its not theirs to play with...period

buzzsaw99's picture

what's theirs is theirs and what's yours is theirs

The Thunder Child's picture

dehypothicate their asses, buy gold and silver bichez!

JJ McApe's picture

So the Fed has reassured that it will keep printing money. Does anyone else see the time bomb that is ticking away? I listen to the cheerleaders on CNBC and they paint a very rosy picture, I feel like I'm living in a parallel universe now and what is up is down and left is right.

ebworthen's picture

Alternate dimension; I fell into this one August 2001.

Things were weird then, but not totally fucked up. 

Everyone around me and the society itself lost sanity, progressively, since then.

Perhaps I just became more and more aware of the lunacy that was already there, or maybe my doppelganger pushed me here because it sucked ass.  I prefer theory II.

thelibcentury's picture

I feel the same way. But then my tendency to consider every possibility, no matter how unbelievable, gives me this question:

What if we are all manic-delusionals who have created the lunacy of our society within our own addled brains, aided by mutual reinforcing behavior from our cohorts in places like ZH, and everything is actually fine and there are no real problems?



The sad thing is, if that were true it might actually make me feel a little bit better, ya know what I mean? Its the clueless, carefree kids and babies that do it to me -- I wish the sorrow and pain I feel for them in anticipation of the world that will be revealed to them was just a symptom of my own insanity.


But of course its not, and of course nothing is fine.

noless's picture

They live in a fairy tale and when their illusion is broken they react violently, or into deeper levels of self delusion. Even after decades, after the things i talked about consistently come to pass, and reality is incrementally unfurled for them, they still continually dismiss me.

I'm glad i had the will to not let them drug me as a child.

I search out knowledge because the world i inhabit makes no sense.

NotApplicable's picture

Stop watching CNBS, and the whole world instantly clarifies itself.

Northeaster's picture

Isn't one of the larger issues the collateral pledged, due to multiple pledges, mean that the contracts are full of nothing already? Rehypothicating something that has already been pledged to someone/something else might be a problem no?

prains's picture

Yes, I'm pretty sure if you read the fine print on some of the contracts it will read;

we pledge our 1999 Chevy Shitstain as collateral in return for 22 trillion dollars

boooyaaaah's picture

I think its a lot like the mortage backed securities that brought the banksters to the brink

One good mortgage was sliced ( and diced) and then the pieces wer distributed and combined with many sub prime non performing mortages -- to make them look good.

Now the one good (mortgage, collateral, paying investment) is used as collateral over and over again

Same shell game 

But different marble under the shell

Funny how we can have explainec to us the train wreck coming but we are only passengers - what can we do

Taint Boil's picture



Stopped reading at Obama Phone. Why not call it the Reagan Phone

Taint Boil's picture



Obama Phone = Urban Myth

Reagan Phone = Is a fact (continued by Bush) 

Yeah, here we go with the junks again. Do any of the Junkers know how to use Google? Yeah, yeah you don’t like Obama ….. and I don’t like him also but what I like and dislike doesn’t change the facts and I’m curious as to why you junk a statement that is probably true. 


I’ll donate $50.00 to Zero Hedge if you can prove that the Obama phone was created under the Obama administration or by Obama. I hope you can ….

Northeaster's picture

Easy killer...Informed people know when the program was created, it was only sensationalized with the "Obama-Phone" woman. Of course, this was tied into the base demographic that voted for Obama which many could relate to, the opposite of course was the "1%" with Romney. Ironic though, as Obama's Commerce pick can buy Romney four times over...

NotApplicable's picture

One, who fucking cares? Two, why do you insist upon being such a tool of the elite? Do you really think engaging in divide and conquer rhetoric accomplishes ANYTHING???!?!?!?

Take your fifty dollars over to HuffPo, or some other political cesspool.

Taint Boil's picture



ROFL No shit - that is the point, it has nothing to do with cell phones [in 1984] – THANKS! 



Link #2

Taint Boil's picture



One, who fucking cares?

I don’t care …. I could give a rat’s ass, times are good here – and you?

Two, why do you insist upon being such a tool of the elite?

What ??? LOL Taint Boil = Ron Paul 100%

….. engaging in divide and conquer rhetoric….

The “Obama phone” is the epitome of divide and conquer and I see you’re falling for it hook, line and sinker. MSM has done its job quite well I see ……. 


$50 challenge is still up and running ……………