Unofficial Oblivion Patch

In the final game, when having no armor or clothes equipped, male characters appear with a loincloth on while female characters have both a panty and bra on. Many games from this era had the underwear as part of the skin texture, however, this is not the case here, as the breasts are actually fully textured.

If a female NPC (or a player character) stands behind a waterfall in third-person while wearing the Dark Seducer armor, the breasts will appear fully exposed. This works for all races, even for the unplayable Dremora. Bretons, Nords, High Elves and Wood Elves use the Imperial textures with different hues.

Found this on a Cutting Room Floor Website. I do not have the game installed, but if one of you checks this in-game and it turns out this is true, it is likely unintentional.