It's the scale of it that leads to The Fear
This morning's Marketplace Morning Report had an interesting bit of information: the US mortgage loan market is $10.4 trillion, of which $2.6 trillion is that oft-mentioned "sub-prime" category, or roughly 25% of the total. So, who is holding the notes for all that debt? Uh, looks like almost everyone, but no one is sure, hence The Fear which is causing people to shout, "Sell! Sell!" into their stockbroker's ears.
After all, with a number that big, how could it not be everyone?
This is a variant of The Fear that you've invested in the one insurance company that insures everyone in San Francisco when The Big One hits, or that underwrites hurricane insurance for everyone in Miami when a Category 5 is bearing down on the city. The question is twofold: what percentage of the sub-prime loans are bad debt (unlikely to be repaid), and who's got 'em in their investment portfolios? Until the answers become clear, The Fear will be with us.
One bit of bad news: the recent low point for the Fed funds interest rate was 0.98 in December of 2003. Debtors who took out 5/1 ARMs in 2002 (or refinanced then) are seeing their loan interest rates adjust upward for the first time, now, but the easy, cheap money continued to be available for quite some time thereafter, and one presumes that many more such loans were written.
I did a quick search looking for mortgage loan default rates, but didn't find anything of any depth or recent provenance. Plus, the default rate is going to vary a lot, even within the "sub-prime" mortgage market because it depends on how much risk was taken on in each loan. How much did they put into a downpayment? What kind of mortgage loan? Which real estate market? What are the economic conditions in the industry that the primary breadwinner works in? Lots and lots of variables that feed into the risk calculation.
This is when we find out which of the risk managers are worth what they're paid.
Hang on, it's going to (continue to) be a wild ride.