What is the Subprime Mortgage Crisis of 2007

Subprime Borrowers

Subprime mortgages are made to subprime borrowers. They are more expensive than standard "prime" mortgages. This means you have people less qualified than average to pay back a loan taking out a more expensive than average loan. Put another way: people who can't afford a mortgage are taking out even more mortgage than they couldn't afford in the first place.

What happened that led to the subprime mortgage crisis of 2007, quite simply, was that many eager and unrealistic people were granted loans by equally eager and unrealistic lenders and then the borrowers were not able to afford to keep their end of the loan agreement.

Default and Foreclosure

When a financial institution or other lender originates a home loan and the borrower then defaults on repayment of that loan according to the agreed upon terms, the lender is eventually compelled to take action by staking its claim to the collateral placed for the mortgage - the home itself. It does this through the process of foreclosure. Simply put - when a homeowner doesn't make their mortgage payments for long enough, the lender forecloses on the home.

The Effect of the Subprime Mortgage Crisis on the Stock Market

It's abuzz in all the news in every media: "Stocks Fall Due to Subprime Mortgage Crisis"! 

The current rise in U.S. foreclosures has strapped the financial institutions originating those loans - so much so that many of them are shutting down, some even succumbing to filing for bankruptcy. When big-name financial institutions start going Chapter 11, investors get mighty nervous and start pulling out their investments.

And when you're talking about something so intrinsic to the U.S. economy as the housing industry, this pull-out doesn't just affect stocks but bonds and, in extreme cases, even cash as well.

Why Now?

But wait a second. Hasn't subprime lending been around forever (in relative terms, of course)? Why would there suddenly be a crisis now? Why not sooner?

It is true that subprime lending has existed for many years, applied with discretion and balance in relation to other, more stable and secure, loan instruments. It also used to be select specialized financial companies and private investors that handled such loans.

Of late, however, and in particular in the real-estate crazed 90s, federally regulated commercial banks started getting into the