Restaking and ‘rehypothecation’ are the same but different

Opinion by: Andrew Redden, CEO of HypurrFi

One of the most significant innovations for cryptocurrency to have come out of 2024 was what’s known as “restaking.” Restaking lets new projects “borrow security” from staking protocols like Ethereum by packaging staked tokens into new, liquid tokens that can be staked elsewhere. Restaking seems like a win-win, giving new products access to existing security through the market while generating additional yield for stakers.

Ethereum co-founder, Vitalik Buterin, and others, feel restaking and liquid staking may not be risk-free. Many comparisons have been made between restaking and so-called “rehypothecation,” or collateral re-use. Rehypothecation played a significant role in the collapse of Lehman Brothers, for instance, helping trigger the Great Financial Crisis. 

It’s no wonder the similarities to restaking have created some worry —but despite superficial similarities, staking and rehypothecation aren’t the same. Read on to learn why.

Restaking and rehypothecation are not the same

Restaking and rehypothecation differ dramatically in their specific structures, obligations and risks. Rehypothecation is a form of borrowing, and its risks are similar to any kind of leverage: More borrowing equals more significant returns but more damage when things go in the wrong direction. 

Lehman Brothers’ heavy use of collateralized debt obligations (CDOs) is a key example of rehypothecation. CDOs packaged many home loans into a single asset that generated loan interest, and their structure obscured their instability. That was made far worse when the CDOs were used to back up more loans, which went back into even more real estate assets. When the housing market turned terrible in 2007, Lehman’s turbo-leveraged real estate holdings crashed against massive outstanding obligations.

Lehman’s bankruptcy also illustrates how rehypothecation amplifies counterparty risk. FirstBank Puerto Rico had pledged $63 million in collateral to Lehman Brothers to secure interest rate swaps before the collapse. That collateral was technically owed back to FirstBank but was initially sold to Barclays as part of Lehman’s liquidation. FirstBank ultimately failed in its legal efforts to reclaim collateral from its collapsed counterparty.

That’s one significant way restaking differs from rehypothecation: Thanks to smart contracts and onchain assets, a failed restaking arrangement is unwound quickly and automatically rather than relying on slow processing by back offices. Auto-liquidation carries risks, but the ability to enforce onchain obligations should not be overlooked. 

The risks of restaking are technical, not financial

The most fundamental difference between restaking and rehypothecation is that staking doesn’t involve a borrower with a financial obligation to a lender. Instead, both staking and restaking boil down to putting up collateral to guarantee service delivery. 

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In proof-of-stake blockchains like Ethereum, the decentralized swarm of validators that secure the network must post a prominent “stake” of funds to collect staking yield. That stake is at risk of being “slashed,” or partially seized, as a penalty if the validator fails to perform its duties accurately. “Restaking” involves packaging and forwarding a “stake” to a second system with similar carrot-and-stick terms. The restaker gets to collect yield on the new system too but is similarly agreeing to have their stake seized if they screw up.

Restaking increases a staker’s work obligations and chances of being penalized — but not their financial leverage. The risks of restaking are technical, not financial. A restaker can be “slashed” for bad performance on either of the systems they’ve pledged stake to, reducing security. A bug or contract flaw can lead to sudden mass instability by triggering punitive slashing in response to exploits such as minting fake staking tokens, as seen on the BNB (BNB) restaking protocol Ankr in 2022.