We hear in the news that the banks are loosing money but exactly how they lost billions of dollars has not been very clear. The problem was with "liquidity puts".

It turns out that banks were giving out mortgages (which is what banks do) and then they were packaging those mortgages into big pool of debts, which were then sold as securities (something called "secutirization" - which in general is a good thing because it creates liquidity - namely it is a lot easier to sell a bond worth 100,000 dollars that has a CUSIP code and a rating from the various rating agencies vs. trying to sell to one customer 100 million worth of various debts).

Securitization also spreads the risk. Instead of one bank having the risk, by dividing millions of dollars of mortgage debts into securities worth a thousand dollars or 100,000 dollars each, that risk could be absorbed by the 1000s of investors that  were buying those securities.

But it seems someone very "smart" at those banks came up with the idea to also issue a "money back guarantee anytime" on those securities - something they called a  "liquidity put".

Essentially this allowed the banks to sell more, but it provided a way to short-circuit the whole system of spreading the risk - because when the mortgage defaults went up, the investors returned those securities back to the banks!

 The following New York Times article is worth reading.