As the great credit crisis of 2007-2008 finally begins to lose steam, most people still don’t understand what the heck happened. For good reason. It’s confusing stuff. The terminology is complicated. The people aren’t well known. The pieces move around quickly.

To the rescue comes Roger Lowenstein, author of When Genius Failed and, significantly, a fine article in this past weekend’s New York Times Magazine. In a nutshell, Lowenstein explains methodically, and in some of the simplest declarative sentences you’ll find written in business journalism, how conflicts of interest at the credit-rating agencies — Moody’s (MCO), S&P (MHP) and Fitch — misled investors in mortgage-backed securities.

The conflict is straightforward, and I’ve written about it here before: The agencies make most of their money from fees paid by bond issuers and their banks rather than from the investors who rely on the ratings. Lowenstein neatly dismisses the credit agencies’ explanation that they did the best they could with the information they had at their disposal. In a pivotal passage, Moody’s walks readers through an actual portfolio of subprime mortgages that was packaged by an investment bank and rated by Moody’s. The actual names are obscured as “Subprime XYZ,” which is how Moody’s was willing to share the illustrative example with Lowenstein. Consider this passage:

The loans in Subprime XYZ were issued in early spring 2006 — what would turn out to be the peak of the boom. They were originated by a West Coast company that Moody’s identified as a “nonbank lender.” Traditionally, people have gotten their mortgages from banks, but in recent years, new types of lenders peddling sexier products grabbed an increasing share of the market. This particular lender took the loans it made to a New York investment bank; the bank designed an investment vehicle and brought the package to Moody’s.

Moody’s assigned an analyst to evaluate the package, subject to review by a committee. The investment bank provided an enormous spreadsheet chock with data on the borrowers’ credit histories and much else that might, at very least, have given Moody’s pause. Three-quarters of the borrowers had adjustable-rate mortgages, or ARMs — “teaser” loans on which the interest rate could be raised in short order. Since subprime borrowers cannot afford higher rates, they would need to refinance soon. This is a classic sign of a bubble — lending on the belief, or the hope, that new money will bail out the old.

Moody’s learned that almost half of these borrowers — 43 percent — did not provide written verification of their incomes. The data also showed that 12 percent of the mortgages were for properties in Southern California, including a half-percent in a single ZIP code, in Riverside. That suggested a risky degree of concentration.

On the plus side, Moody’s noted, 94 percent of those borrowers with adjustable-rate loans said their mortgages were for primary residences. “That was a comfort feeling,” Robinson said. Historically, people have been slow to abandon their primary homes. When you get into a crunch, she added, “You’ll give up your ski chalet first.”

This shows Moody’s understood full well that the mortgages were all subprime. This means
that, by definition, the mortgage holders had inferior credit, and that a giant percentage didn’t supply documentation to back up their income claims on their mortgage applications. Moody’s and others say they were victims of fraud. Yet they’ve admitted to Lowenstein that they were willing victims of fraud. A final note to Claire Robinson, the veteran Moody’s executive quoted at the end of that passage: People who can’t afford prime mortgages typically don’t have ski chalets.

It’s worth taking a step back here and asking what can be done about the conflict. I met Monday with Bill Hambrecht, the founder of the old Hambrecht & Quist [now part of JPMorgan Chase (JPM)] as well as his current firm, the dutch-auction promoter WR Hambrecht + Co. He told me it’s not simply that the ratings agencies curry favor with the banks. It’s also that the analysts at the agencies, who might make in the neighborhood of $100,000 a year, cozy up to the bankers they meet with because they’re interested in going to work for the banks, where they can earn a lot more money. Hambrecht’s solution: Empower the government to rate bonds, especially if the government requires certain kinds of fund managers to own only officially-rated bonds. Lowenstein, by the way, comes to essentially the same conclusion, though he doesn’t directly advocate a government-run ratings regime.

I posted some insta-analysis on Oracle’s (ORCL) acquisition of BEA Systems (BEAS) this morning and distributed it among my network of friends and contacts. Their responses were interesting — and worth sharing.

One friend, a sharp-eyed historian, likened Larry Ellison’s role in enterprise software to J.P. Morgan’s consolidation of U.S. banks a century ago.

Morgan was a consolidator and rationalizer of maturing industries after a period of excess. He didn’t innovate, used his balance sheet as a competitive advantage and was a force for order. Also, he was way into big boats.

I didn’t know about the boats!

A keen small-business owner who toils far from Silicon Valley weighed in thusly:

I’m not exactly plugged in to the enterprise software market, but I didn’t realize that there were rumblings that it was dead. I think there is always going to be a market for an enterprise system that avoids the hassles, expense, and risk of integrating individual packages that are selected for each function (e.g., manufacturing, distribution, accounting, HR, etc.). Microsoft and perhaps SAP (SAP) have been smart to realize that they have a large middle-market opportunity because that market is traditionally underserved by the all-in-one concept. But I’m not aware of all of Oracle’s moves in the big company arena, and it sounds like they’ve done well to focus there. Also, I would agree with the statement that technology companies (and other high-growth industries) aren’t doing themselves a favor in terms of stock price or fueling growth if they just sit on cash (and sitting on the cash sends a signal that management isn’t good at identifying new growth projects, which depresses the stock further). As you know, this has been a criticism of Microsoft (MSFT) for many years, and I’m not sure if they’ve fully addressed it.

A correspondent of mine who is a true tech guy inside a really big diversified company had this guidance on the relative deadness of enterprise software:

Of course it isn’t dead, but it is simply a very mature business with not the extreme hyper-growth of 5-10 years ago. The dynamics of a mature industry are different than a nascent one, and the movement to a “gorilla game” is natural as a segment evolves.

A tech lawyer I know - but haven’t seen in ages! - quibbled with my praise of Ellison’s vision:

Not sure I agree with you. The spotting of trends can outpace reality by a couple decades or more. Wouldn’t you have thought that Toyota (TM) would have passed Ford (F) in the US twenty years ago, not this year? Same with Toyota passing GM globally. This dissonance is true even in faster moving tech. Why did it take AOL so long for its market share to erode? It held on for 6 or 7 years longer than the shorts (who got killed on AOL) thought they could, given the rise of broadband.

Another legal eagle who knows his bits and bytes had this to say:

Enterprise software may not be dead, but it is also pretty cyclical, right? Also, there’s a downside to tech companies overborrowing. If they get too aggressive they will stray from the ’stick with the business you know’ observation you make about Oracle overall. Finally, what is Oracle’s batting average in spending that $25 billion. In other words, how many dogs did it buy?

Good question! Thanks everyone.