Securitized

Well, it happens when you make a security out of clay. Or mortgage bonds. Or debt backing 239 airplanes. Basically, you’re creating one large thing out of many small things to create liquidity and broader investment interest and flexibility in a given category.

So…think about the most famous securitization in history, collateralized mortgage obligations, or CMOs, wherein a bunch of clever Wall Street people securitized subprime or high-risk mortgages, created that CMO security, and then sold the crap out of it to investors.

And then bad things happened.

Example:

Manny's a great guy. Excellent golfer. He's a gardener; he makes 45 grand a year. His wife Esmeralda is a substitute school teacher; she make 30 grand a year. They have three kids and were somehow able to get a loan for 750,000 dollars. To buy a freakin’ amazing mansion.

Had one investor looked at this transaction, they would have realized that something was...off. Like, how can a total family household income of 75 grand be able to pay 10x that number in a mortgage?

Well, a fudge here, a fudge there, a teaser rate for 6 months, a sickly old uncle who promised to die soon and and and....

When loans get securitized (and it usually is loans or debt that gets securitized like this), the theory is that there will be less volatility, less risk when lots of them are pooled together.

But, in fact, there was only perversely extreme incentive to write loans from the various lending institutions writing them. There was poor management, poor governance, and poor math. So the subprime mortgage securitized behemoth blew up famously, and almost destroyed the U.S. financial system.

Other things get securitized as well. For example, real estate holdings get securitized in what is called a REIT, or real estate investment trust, which puts into one investing vehicle a whole bunch of usually aligned buildings.

Think: old age homes, shopping malls, office buildings, massage parlors. The process simply makes one easily investable security out of lots of disconnected, individual investments, and (usually) that’s good for everyone.