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SamuelRSmith on 01 January 2012
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Vertigo-X said:
Kasz216 said:

Not quite...

What happened with the loans worked kinda like this.

 

Say I agreed to lend Ascii 100 dollars, with the agreement that he pays me 10 dollars a month for 24 months, netting me 240 dollars at the end of 12 months.

However, i'm not 100% sure he'll pay me back the 100 bucks.  So I offer you $1 a month, so that if he fails at any time during the loan (which is unlikely, but possible) You will pay me 50% of what he lost.  Meaning I now make a $10 profit but have much less risk.  While your making a quick $10 while shouldering only half the burden on a loan that's probably going to be paid back immdeiatly anyway.

Essentially a giant web of that, led to a bunch of people who shouldn't have had loans in the first place defaulting, destablizing the system, causing these guys to raise their intrest rates to avoid folding (instead of 120 i now want 130, since there was a provision in the deal allowing this.) causing more people to fail their morgages.... leading to the more people needing to make up more of the losses...

well you get the picture.

 


I am having trouble understanding your train of thought.

 

With your example, you said Ascii would be lent $100 by you and he would have to pay $10 per month for 24 months or $240 for the two years.

 

After that, you lost me. Where do I come into this and why are you paying me $1 a month? Why would I end up paying you 50% of what Ascii lost/didn't pay you?

 

I appreciate the response, Kasz! This is a good discussion, I think!


I'll fill in for Kasz.

You are essentially an insurer, Kasz is paying you a dollar a month for insurance. If his loan fails, you have to pay up half of what's owed. This benefits Kasz, because even if the loan does fail, he will still get atleast half of his money back. If the loan doesn't fail, you will benefit, as you would have profited from the dollar a month.

The more likely the loan is to fail, the more Kasz would have to pay you, as you have a greater risk, and the potential dollar a month wouldn't be worth the risk to you (also, the riskier the loan, the more Kasz will worry, so he is willing to pay more for insurance, which is actually far more important in the final price of insurance - how much you think Kasz is willing to pay).