I have played though this game about 5 times and have never seen an event likethis take place.

I was doing the thieves guild mission "misdirection" I was already the arch Mage so acquiring the ice staff was easy walked in grabed it and reported back. I was then told to go wath the waterfront as expected; however this is where it gets strange.

On my way to the waterfront I encountered Ontus Vanin (the Mage who walks around the imperal city in the wite robes) and he attacked me on site! The guards quickly jumped in and in the process the guard captan got shot by a few arrows, so he then turned on his own guards. Now there are about 20-25 guards attacking him and in the process they take some friendly fire and start attacking each other. This keeps taking place until only about 7-10 guards are still alive. The whole time I just watched, nobody ever attacked me (aside from the initial hostel act by Ontus Vanin) after everyone was dead I took some loot and went on my way, no repercussions. Has anyone else seen this?

Something, similar, though not really similar. Ok, so I stole someone from this person's house that the Gay Fox was using as a hideout, right before the final thieves guild quest. So i turned on invisibility when the guard came in and he couldn't find me, when I chose to resist arrest. I sneaked past him and went outside, and strangely enough, the owner of the house attacked one of the guards in the street and they went after him, all while chasing me at the same time. They all focused on killing the owner of the house before deciding to deal with me. It was pretty funny. I saved before I committed the crime though just to save me any real hassel. The weird thing is that it was on the 360 version of the game, something i would have expected only from the PC version. O.o

Yeah mine was also on the 360, interestingly I never did anything wrong I do not know what prompted this hostel act.

I've seen loads of guards attacking each other when I was doing the Ultimate Heist. In the end there was only one guard left and my game was sooo laggy because of all the dead bodies guards just kept coming through the doors, and the priests from the library got involved too. That was on the 360.

Yeah I'm currently on the Ultimate Heist quest myself. Can't wait to finish up Thieves Guild and join Dark Brotherhood.

That is not unusual behavior for Ontus, especially when you become Arch Mage. More details in the 'Bugs' section of this link:

http://www.uesp.net/wiki/Oblivion:Ontus_Vanin

Something very similar happened to me regarding Ontus. But I wasn't part of the Mage guild at the time, (or if I was I was an Apprentice at the very most.) First thing I realised was that about 5 Daedra started attacking the guards (I was in the Market District at the time), then Ontus came along - and he was summoning the Daedra. At the inevitable defeat of Ontus, the guards finished off the Daedra then advanced on each other. Meanwhile I was standing, amused, by The First Edition. Very weird.
It's one of those random hilarious things that happens in The Elder Scrolls. :tes: