The way that these deals are structured is that a bundle of loans are aggregated in a broad river of money over a period of time, and then the money is sliced by time into bonds. (Not entirely by time, it is usually structured so that later bonds get appropriate interest payments.) If you're in one of the later time slices and money doesn't come in, you don't get paid. If you're in one of the earlier time slices, you still get paid. This means that every deal generates bonds with a range of risk from extreme to AAA. (Unless the risk models are wrong, in which case the "AAA" can turn out to be risky. As happened.)

When you have a loan modification, the principal owed drops. That means that the total amount of money coming into the deal goes down. Those losses hit the bottom bonds first. As you reduce principal, you reduce interest. Once enough money has gone out of the deal, those bonds won't pay anything more, and the bond is dead.

(I haven't been in finance for several years, but I used to be in the CMBS world.)

I am not in finance. This is a second-hand explanation. Tablespoon of salt and all that.

These sorts securities were structured in such a way that some people get a lower ROI, but better risk profile. The way that works is that whoever accepts the lowest rate of return gets their portion first. When the money runs out, the assets that would have the highest rate of return miss out entirely.

There are two major ways that a loan can change: default (where the debtor simply does not pay; this typically leads to foreclosure and the bank often takes a loss) and renegotiation (where the debtor negotiates a reduction in how much the debtor will eventually need to pay on the theory that the lower amount will make default less likely). Both of these reduce the amount of money coming in (and, indeed, the amount that is ever going to come in).

What happened is that the amount of money coming in (and expected to come in) dropped to the point where, after paying every asset promising a lower rate than Toxie, there was no money left to pay Toxie. As there is no means by which this situation can change, Toxie no longer has value.

Loam modifications are post-signing agreements to alter the terms of a loan, most commonly to reduce principal, waive interest, or alter the interest rate going forward. They are historically considered highly abnormal for residential mortgages.

They have very negative effects for lower tranches of mortgage backed securities.

When a house is sold at a loss that particular stream of mortgage payment dries up entirely. Essentially all of the non-paid off loans had their collateral (houses) sold and were declared closed. At the point no money will ever flow into the asset ever again. It's dead.

there's a really good followup here: http://www.npr.org/blogs/money/2010/09/24/130107647/what-doe...