The operating principal of the hydraulic toolholder is to use non-compressible fluid to expand a sleeve to secure a cutting tool. A close fit between the cutter and the sleeve increases the gripping power. The expansion sleeve is actuated in all directions by the hydraulic fluid and tends to center the cutter.

A hydraulic tool holder uses a reservoir of oil to equalize clamping pressure around the tool. When you place the tool in the holder and turn the screw inwards, it increases the oil pressure, causing an expansion of the sleeve to grip the tool shank.