This is a historical message first posted here in June 2007... a year before the meltdown
This "subprime" mortgage stuff is just the start of it. There are serious, systemic problems with the way consumer debt is packaged and sold to the market. Fannie Mae and CMHC (both government related) play major roles in this - both major debt issuers on a worldwide scale, and the primary forces behind the real estate boom.
Basically through government intervention, sloppy accounting, and a booming derivatives market, issuers of asset backed securities including mortgages have been able to make it look like the debt instruments they put on the market are riskless. One of my close friends worked at a big bank, pricing and modeling these instruments. It's a game to them, just a purely mathematical game. They are very far removed from reality and have few provisions for falling real estate, rising bankruptcies, or unwinding consumer leverage (e.g. Underwater).
The market now realizes that the lower grade paper is a disaster, but we haven't seen anything yet. The problems will spread as other debt is revealed to be a lot crappier than the credit rating it carries. In my opinion this includes Fannie Mae MBS. This mortgage crap is stuffed into every bond fund you can find. The iShares short term canadian bond fund (sounds like t-bills right?) is in fact 50% mortgages.
I haven't even mentioned above that the derivatives used to hedge the risk on trillions in debt are themselves questionable - traded OTC with no reliable counterparties. The debt paper is crap, and so is the wrapping used to hold it together and make it look pretty and riskless. I guarantee you, the risk is there and it will show in the pricing eventually.
- Perpetual Bull
Hire me. I'm better than your risk analysts. Want to avoid losing billions at your firm?
See, it is possible to evaluate credit risk. The 2008 meltdown did not come out of “nowhere”... it was foreseeable, not some kind of bad-luck disaster
Bank/pension fund risk analysts are no good at their jobs. Nobody saw this coming?
Just as I said, Fannie Mae debt was downgraded, their paper blew up, and the company collapsed
Just as I said, mortgage derivative models (CMOs, CDOs) turned out to be flawed. The models blew up. I didn't need a PhD in math to figure this out
The credit-linked derivatives also blew up and brought the world to the brink of systemic collapse. Unlucky accident? No... foreseeable.
 CMHC still has not had problems, but I suspect this will blow up too eventually.