people go to mortgage company for a "ninja loan" - No Income No Job Applicant.
mortgage company then sells mortgage to the bank on the assumption the property will increase in value so doesn't take a deposit, and takes the commision for selling the loan.
Retail Bank goes "crap, we've bought some really dodgy mortgages, i know, we'll push them over to our investment side."
Investment Bank side then packages up securities, using the mortgages as collateral, calling them CDO's (assuming the mortgages get paid, the CDO's will pay back to whoever invests in them)
the CDO's are then split into 3 levels of risk (traunches). the good the not-so-good and the ugly.
if some of the mortgages fail, as some surely will,the investment bank will pay the investors holding the "good" traunch first, then the "bad", and the "ugly" investors last.
so the "good" investors have the least risk, get the lowest interest rate
the "not so goods" will get a better interest rate, and the ugly guys will get a nice big fat interest rate as they have the most risk.
The investment bank then buys insurance for the "good" piece so the rating agencies give it AAA-A safety rating. The "not so good" gets a BBB-B rating, and for the "ugly" piece, it doesn't even get rated.
so, supposed AAA and BBB rated securities get created out of a pile of risky mortgages, that get invested in by insurance companies, banks, small towns in norway, school boards in kansas... anyone looking for a high quality safe investment.
the ugly pieces get kept by the Investment Bank, and they pay themselves a nicce fat interest rate. however, so they don't show in the balance sheet as crappy mortgages, a shell company gets setup in the caymen islands to take ownership of the mortgages. the name for this being Special Purpose Vehicle - SPV.
then the whole thing falls down as there is no money comming into the mortgages to pay the CDO securities investors - who then don't recieve their monthly payments, and it all falls down through the chain.
basicly, my thoughts are that someone somewhere is making a shed load of cash off the back of this.
