> People went to traditional banks and mortgage brokers and bought
> mortgages.  All of these mortgages carry different amounts (e.g.
> $100,000 mortgage vs. a $500,000 mortgage) and different risk levels.
> The ones that are more likely to default have a higher interest rate,
> so the bank stands to gain more money...but at a greater risk of the
> home owner defaulting on the mortgage.

> The problem with this is it is very difficult to balance your risk-
> reward ratio.  So they created an investment vehicle called a mortgage-
> backed security (MBS).  This is reffered to as a "derivative" because
> it is based off of the mortgage.  The way it works is the banks
> chopped up all these different mortgages into different securities
> that were worth different amounts and different risk levels.  They
> then sold these to other banks and investments firms.  The firms who
> bought these MBS then received a payment based off of the mortgages.
> For the banks selling MBS, it helped them pool risk and generate
> capital, and for the firms who bought the MBS, it provided a source of
> cash flow with what was thought to be a very safe,secure underlying
> commodity: real estate.

> Since real estate was so "safe," these banks used huge amounts of
> leverage (borrowed money to buy the securities) because they didn't
> think they were that risky.  Some firms, like Lehman, were leveraged
> 30:1, meaning that for every $30 they borrowed, they had $1 of
> underlying assets.  That would be like you making $1000 a year but
> taking out a loan of $30,000.

> While all this is going on, people are buying up adjustable interest
> rate mortgages (ARMs).  They offer a cheap introductory rate, but then
> skyrocket.  So all of a sudden, all these people discovered they
> couldn't make their monthly payments.  The default rate shot through
> the roof.  The firms that had purchased MBS did so based on certain
> calculations of default.  In other words, X number of people could
> default on their mortgages, but they could still make a profit and
> have a positive cash-flow.  However, when the default rate shot up,
> this threw all of their calculations off.

> Now the firms faced a real problem.  They had HUGE amounts of debt on
> their balance sheets, and the assets that were supposed to balance
> that debt were becoming worth less and less because of the rising
> default rate and the drop in housing prices.  These are the "write-
> downs" that you hear about.  The firms had to pay interest on that
> debt, but they did not have the corresponding cash flow to be able to
> pay the debt.  Lehman, for example, had $5.4B of debt obligations last
> quarter, but only had $2.3B in income.

> When you can't pay your debt obligations, that's called being
> insolvent.  Many people think that bankruptcy is caused by having more
> liabilities than assets, but that's not true.  It's caused when you
> can't make good on your debts, so the repo man comes and claims your
> assets in order to make up for it.  When that happens, you have to
> file for bankruptcy in order to make sure that people get paid in the
> correct order because otherwise different creditors are going to be
> suing you to make sure they get what you owe them.

> So that's where we are now with Lehman.  They couldn't pay their
> debts, so they had to file for bankruptcy.

> Make sense?

> 1. Bank collects peoples money
> 2. Bank loans money back out to people who want to buy a house
> 3. People buy houses they can't afford
> 4. ???
> 5. Bank is screwed and has to file for bankruptcy

> I'm sorry if I'm asking a stupid question... but I always read the
> news articles, and nothing explains exactly what's going on.  Thank
> you for your patience.

> ~Sean

> People went to traditional banks and mortgage brokers and bought
> mortgages.  All of these mortgages carry different amounts (e.g.
> $100,000 mortgage vs. a $500,000 mortgage) and different risk levels.
> The ones that are more likely to default have a higher interest rate,
> so the bank stands to gain more money...but at a greater risk of the
> home owner defaulting on the mortgage.

> The problem with this is it is very difficult to balance your risk-
> reward ratio.  So they created an investment vehicle called a mortgage-
> backed security (MBS).  This is reffered to as a "derivative" because
> it is based off of the mortgage.  The way it works is the banks
> chopped up all these different mortgages into different securities
> that were worth different amounts and different risk levels.  They
> then sold these to other banks and investments firms.  The firms who
> bought these MBS then received a payment based off of the mortgages.
> For the banks selling MBS, it helped them pool risk and generate
> capital, and for the firms who bought the MBS, it provided a source of
> cash flow with what was thought to be a very safe,secure underlying
> commodity: real estate.

> Since real estate was so "safe," these banks used huge amounts of
> leverage (borrowed money to buy the securities) because they didn't
> think they were that risky.  Some firms, like Lehman, were leveraged
> 30:1, meaning that for every $30 they borrowed, they had $1 of
> underlying assets.  That would be like you making $1000 a year but
> taking out a loan of $30,000.

> While all this is going on, people are buying up adjustable interest
> rate mortgages (ARMs).  They offer a cheap introductory rate, but then
> skyrocket.  So all of a sudden, all these people discovered they
> couldn't make their monthly payments.  The default rate shot through
> the roof.  The firms that had purchased MBS did so based on certain
> calculations of default.  In other words, X number of people could
> default on their mortgages, but they could still make a profit and
> have a positive cash-flow.  However, when the default rate shot up,
> this threw all of their calculations off.

> Now the firms faced a real problem.  They had HUGE amounts of debt on
> their balance sheets, and the assets that were supposed to balance
> that debt were becoming worth less and less because of the rising
> default rate and the drop in housing prices.  These are the "write-
> downs" that you hear about.  The firms had to pay interest on that
> debt, but they did not have the corresponding cash flow to be able to
> pay the debt.  Lehman, for example, had $5.4B of debt obligations last
> quarter, but only had $2.3B in income.

> When you can't pay your debt obligations, that's called being
> insolvent.  Many people think that bankruptcy is caused by having more
> liabilities than assets, but that's not true.  It's caused when you
> can't make good on your debts, so the repo man comes and claims your
> assets in order to make up for it.  When that happens, you have to
> file for bankruptcy in order to make sure that people get paid in the
> correct order because otherwise different creditors are going to be
> suing you to make sure they get what you owe them.

> So that's where we are now with Lehman.  They couldn't pay their
> debts, so they had to file for bankruptcy.

> Make sense?

> People went to traditional banks and mortgage brokers and bought
> mortgages.  All of these mortgages carry different amounts (e.g.
> $100,000 mortgage vs. a $500,000 mortgage) and different risk levels.
> The ones that are more likely to default have a higher interest rate,
> so the bank stands to gain more money...but at a greater risk of the
> home owner defaulting on the mortgage.

> The problem with this is it is very difficult to balance your risk-
> reward ratio.  So they created an investment vehicle called a mortgage-
> backed security (MBS).  This is reffered to as a "derivative" because
> it is based off of the mortgage.  The way it works is the banks
> chopped up all these different mortgages into different securities
> that were worth different amounts and different risk levels.  They
> then sold these to other banks and investments firms.  The firms who
> bought these MBS then received a payment based off of the mortgages.
> For the banks selling MBS, it helped them pool risk and generate
> capital, and for the firms who bought the MBS, it provided a source of
> cash flow with what was thought to be a very safe,secure underlying
> commodity: real estate.

> Since real estate was so "safe," these banks used huge amounts of
> leverage (borrowed money to buy the securities) because they didn't
> think they were that risky.  Some firms, like Lehman, were leveraged
> 30:1, meaning that for every $30 they borrowed, they had $1 of
> underlying assets.  That would be like you making $1000 a year but
> taking out a loan of $30,000.

> While all this is going on, people are buying up adjustable interest
> rate mortgages (ARMs).  They offer a cheap introductory rate, but then
> skyrocket.  So all of a sudden, all these people discovered they
> couldn't make their monthly payments.  The default rate shot through
> the roof.  The firms that had purchased MBS did so based on certain
> calculations of default.  In other words, X number of people could
> default on their mortgages, but they could still make a profit and
> have a positive cash-flow.  However, when the default rate shot up,
> this threw all of their calculations off.

> Now the firms faced a real problem.  They had HUGE amounts of debt on
> their balance sheets, and the assets that were supposed to balance
> that debt were becoming worth less and less because of the rising
> default rate and the drop in housing prices.  These are the "write-
> downs" that you hear about.  The firms had to pay interest on that
> debt, but they did not have the corresponding cash flow to be able to
> pay the debt.  Lehman, for example, had $5.4B of debt obligations last
> quarter, but only had $2.3B in income.

> When you can't pay your debt obligations, that's called being
> insolvent.  Many people think that bankruptcy is caused by having more
> liabilities than assets, but that's not true.  It's caused when you
> can't make good on your debts, so the repo man comes and claims your
> assets in order to make up for it.  When that happens, you have to
> file for bankruptcy in order to make sure that people get paid in the
> correct order because otherwise different creditors are going to be
> suing you to make sure they get what you owe them.

> So that's where we are now with Lehman.  They couldn't pay their
> debts, so they had to file for bankruptcy.

> Make sense?

> chris_desbar...@yahoo.com wrote:
> > It's complicated, but here's the 30-second version of what happened
> > with Bear Stearns and Lehman:

> > People went to traditional banks and mortgage brokers and bought
> > mortgages.  All of these mortgages carry different amounts (e.g.
> > $100,000 mortgage vs. a $500,000 mortgage) and different risk levels.
> > The ones that are more likely to default have a higher interest rate,
> > so the bank stands to gain more money...but at a greater risk of the
> > home owner defaulting on the mortgage.

> > The problem with this is it is very difficult to balance your risk-
> > reward ratio.  So they created an investment vehicle called a mortgage-
> > backed security (MBS).  This is reffered to as a "derivative" because
> > it is based off of the mortgage.  The way it works is the banks
> > chopped up all these different mortgages into different securities
> > that were worth different amounts and different risk levels.  They
> > then sold these to other banks and investments firms.  The firms who
> > bought these MBS then received a payment based off of the mortgages.
> > For the banks selling MBS, it helped them pool risk and generate
> > capital, and for the firms who bought the MBS, it provided a source of
> > cash flow with what was thought to be a very safe,secure underlying
> > commodity: real estate.

> > Since real estate was so "safe," these banks used huge amounts of
> > leverage (borrowed money to buy the securities) because they didn't
> > think they were that risky.  Some firms, like Lehman, were leveraged
> > 30:1, meaning that for every $30 they borrowed, they had $1 of
> > underlying assets.  That would be like you making $1000 a year but
> > taking out a loan of $30,000.

> > While all this is going on, people are buying up adjustable interest
> > rate mortgages (ARMs).  They offer a cheap introductory rate, but then
> > skyrocket.  So all of a sudden, all these people discovered they
> > couldn't make their monthly payments.  The default rate shot through
> > the roof.  The firms that had purchased MBS did so based on certain
> > calculations of default.  In other words, X number of people could
> > default on their mortgages, but they could still make a profit and
> > have a positive cash-flow.  However, when the default rate shot up,
> > this threw all of their calculations off.

> > Now the firms faced a real problem.  They had HUGE amounts of debt on
> > their balance sheets, and the assets that were supposed to balance
> > that debt were becoming worth less and less because of the rising
> > default rate and the drop in housing prices.  These are the "write-
> > downs" that you hear about.  The firms had to pay interest on that
> > debt, but they did not have the corresponding cash flow to be able to
> > pay the debt.  Lehman, for example, had $5.4B of debt obligations last
> > quarter, but only had $2.3B in income.

> > When you can't pay your debt obligations, that's called being
> > insolvent.  Many people think that bankruptcy is caused by having more
> > liabilities than assets, but that's not true.  It's caused when you
> > can't make good on your debts, so the repo man comes and claims your
> > assets in order to make up for it.  When that happens, you have to
> > file for bankruptcy in order to make sure that people get paid in the
> > correct order because otherwise different creditors are going to be
> > suing you to make sure they get what you owe them.

> > So that's where we are now with Lehman.  They couldn't pay their
> > debts, so they had to file for bankruptcy.

> > Make sense?

> What happened in that case was that the company was delisted and if
> you wanted to buy any of their stock you had to (and still have to)
> buy it over the counter (aka pink sheets) until such time as they
> qualify to get listed again. In their case at one time that meant they
> had to get their stock back up over $1.00 for a number of days in a
> given period of time or something like that.

> They were delisted because the stock had been under $1.00 for quite
> some time and several warnings/extensions later they were finally
> taken off. That was the NASDAQ in that case, but I assume other major
> markets are similar.

> I had not heard any rumors of delisting or cancellation of shares and
> although the whole situation is very dramatic their stock has only
> been in penny stock territory for a few days now.