I think it's also one of the reason of the 2008 crisis, but it certainly not only happened on the 2008 crisis: on the markets, many are ready to believe that low risk and high profitable assets are possible. Why market still believe that? I mean, while there's more or less calculated risk, it is always somehow either risky, or not so low profit but stable because the problems are lessened by the spikes thereafter and makes finally a low profit. It feels just like that sometimes, many (even if it's not the majority) is just ready to believe any dream we make for them in the short term, even if in the long term it doesn't have any sense.
I think people know that that there is risk and reward, but at times it's difficult for them to understand or accept this. When the markets are great and borrowing costs are low, as they were pre-2007, you often find people seem to believe in the high reward and they forget about the high risk element. There are also a couple of behavioral finance theories such a recency bias, that show that an investor will typically use his most recent experiences to "predict the future", so if he has experienced some gains recently in his mind he believes these gains are sure to continue. There is an overconfidence that comes from earlier gains leads the investors to believe that their abilities will continue to move the markets in their favour. The reality is it is impossible to consistently beat the market, as you have so rightly alluded to in your question. Entering the market with the long run in mind, is the best strategy in my opinion.
Back before the crash, institutions were using massive amounts of leverage (borrowed $), and were investing heavily in "toxic assets" such as subprime mortgages, which was a bubble that popped after the real estate bubble popped. Many subprime borrowers were not really qualified for home ownership to begin with, and with the economic slowdown that started prior to the '08 meltdown, more and more loans went bad, and institutional liquidity dried up. The oil market also collapsed in late '08, which put even more people out of work and put even more strain on the financial institutions who were investing in oil and oil companies and lending those oil companies money.
Thanks for both of replies! I must admit they explains things and help people (or at least myself) to understand better or to agree with you on point of views. Well, the thing is that, they used too much leverage but why they don't say like "stop, we don't know the job enough"? I mean, the market not only let them making toxic assets, they also associated toxic assets with other, more "nice-looking" assets to make it buyable to more people who thought that by associating high-profit asset with low-risk asset, you'll get best of both worlds. That's not working like this, obviously. Also, the leverage regulation wasn't too much weak, and then wasn't the cause of lack of regulations?
There was corporate greed and a lack of oversight as well. I firmly believe that institutions who invest the money of others (particularly unaccredited investors) and hold the deposits of others need to have some sane risk management parameters they should operate under. But of course big govt goes WAY overboard with Dodd Frank. And one thing to keep in mind is that some investment losses can be theoretically unlimited, even though assets (and presumably credit) are limited.
