FRM Part II · FRM Exam Part II · Repurchase Agreements and Financing
A dealer reverse repos a bond and then re-pledges the same bond in another repo. This practice of reusing received collateral is known as:
This is rehypothecation: reusing collateral received in one transaction as collateral in another. It lets dealers economize on collateral but creates long chains that can amplify liquidity pressure when counterparties withdraw funding or demand collateral back.
- ARehypothecationCorrect
- BNovation
- CClose-out netting
- DSubstitution
Explanation
Rehypothecation is the reuse of collateral received from one counterparty to obtain funding from another. It lengthens collateral chains and can amplify liquidity stress. Substitution swaps collateral within a trade, and netting and novation are different concepts.
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