Sub-Prime Mortgage... what does it mean for joe schmoe...

I just read an article about the state of affairs in one of the world's oldest financial firms, and their plight as they seek a saviour to rescue the company from the deep trenches of the sub-prime mortgage crisis. As I write this blog, Lehman Brothers, the 161 year old financial giant is on the verge of a collapse and had lost more than $7 Billion in the last two quarters alone. Add to this fact, most of lehman's employees have gotten most of their pay with stock, stock options and restricted stock units that vest over multiple years. Think for a second about the value of Lehman Brothers stock. The stock price plummeted from an all time high of $86.18 in early 2007 to $4.22 end of trading yesterday. When Nortel collapsed a few years back, thousands of employees were laid off but at least they were sufficiently compensated for their years of service with a payment that actually cashed out to something. Lehman employees were paid anywhere between 10% and 60% of their salary in stocks and stock options. In less than a year people saw their children's college fund disappear with no warning. Their crime: being part of a company whose management took decisions that landed them right in the middle of the sub-prime mortgage crisis.

Lehman Bros aren't alone on this one either. Global banks have lost close to $300 Billion to the sub-prime mortgage crisis with the IMF predicting that by the time all this is over, more than $1 trillion could be lost into fat air. Unlike Bear Stearns, Fannie Mae and Freddie Mac, taxpayer money isn't coming to the rescue of Lehman Bros where employees face more than $10 billion dollars in losses. With 24,000 employees working at Lehman, that averages out to $42000 per employee. Imagine waking up one day and realizing that you've lost $42000 dollars because someone else decided to borrow money from your employer and they couldn't pay it back. More than 80,000 jobs have been lost in the NYC area in the last year alone, mostly in the financial sector and mostly attributed to sub-prime..

For those that are still curious about what the sub-prime mortgage crisis really is, it's quite simple. It's case of a greedy lender and a greedy borrower fighting it out.

Part 1: Greedy Borrower... A few years back, the housing market was facing a boom and house prices were going up throughout the United States. People saw this as an opportunity to grow their personal wealth and went to their banks and asked for a mortgage to finance their new home purchase. Often times, they did not make enough money to support the mortgage they were asking but were hoping that house values would continue to rise and they could refinance their mortgage at a later date.

Part 2: Greedy Lender... Typically a bank would only give money to lenders who they strongly believed were capable of paying them back. However, the banks didn't make this any easier by providing incentives such as sub-prime and adjustable rate mortgages with very appealing initial terms. The banks knew the risk they were taking but were confident that the housing market would continue to grow and people would be able to afford whatever mortgage they were getting with interest rates that were below prime.

Chaos Theory: ...All hell broke loose in 2007 when the housing bubble burst and house prices started falling to the amazement of both banks and buyers. Banks refused to refinance once the housing prices started falling and people who borrowed could no longer pay back what they borrowed resulting in high default and foreclosure rates to end up where we are today..

Now, anyone with a financial background wanna explain to me the process of securitization?? i know the banks took all these foreclosed homes and resold them to investors as securities but I don't understand how they're in a position of being screwed over if they did that. Isn't the purpose of securitization to protect themselves and pass all the losses to the investors and not the bank itself?? and if they did that, y are they on the verge of collapse?? Also, what's the point of the gov't pouring millions/billions of tax payer money into these companies if they're going down under. I guess i'm asking this from an ignorant perspective because I don't fully understand the roles all these institutions play... anyone who wants to explain this to me.. please.. feel free to comment..