At TFG we often talk about securitization in relation to receivables and trade finance assets. These are just a subset of the asset finance market, which ranges from the repackaging of financial debt instruments from bonds, to student loans. TFG investigates how student loans securitization is seen by investors.
Several markets have been packaged into financial instruments; on the one hand, the mortgage, car loan and bond markets are well known for being securitized for investors, yet on the other, very little is known about the rise of the student loan space. When it comes to paying for the higher education, acquiring financial debt or student education loans to pay for the college tuition can’t be avoided for many students, according to the zmarta loan comparison tool. TFG investigates some of the key opportunities around the less known space of student loan securitization and the impact of this on investors.
Securitization of student debt
Some $1.52 trillion of outstanding student debt lies in the US alone, accounting for over 40 million borrowers. Banks and lenders are known to securitize these asset-backed securities, or SLABs, as they are known.
Interesting facts about student loans:
- $1.2-$1.6tn estimated outstanding debt from students in the US
- 40 million borrowers (student debt holders) in the US
- Average student loan balance is $37k
Image source: bloomberg.com – stats from 2007 to 2018 – student loan is the one factor that is making the tangible properties collateralised to get the higher amount of loans on low interest rates.
Securitized portfolios of student debt are attractive to investors because of their structures and guarantees, however, as student loans continue to increase against a limited security or financial guarantee, their creditworthiness and rating might decrease, as we explore later.
SLABs (student loan asset-backed securities) were created to deliver pools of outstanding student debt for an investor base to tap into. What were the key risks here?
Generally speaking, both the number of borrowers of student loan debts and the average outstanding debt per student borrower has increased each year for over a decade. However, this rise has been compared to a financial bubble, similar to that from the sub-prime mortgage market and economic crisis of 2008. Given that student loans are not combined (collateralized), versus mortgage securities, investors would be at risk of losing their investments in the case of a default.
Who funds student loan debt?
Just a couple of the larger players participate in funding student loans as a form of private debt. The larger banks are no longer entitled to subsidies from the state, so participation has dwindled. For instance, the government initiative, the Federal Family Education Loan Program (FFELP) used to charge a 3% loan fee per year, but it ended in 2010, shying away investors and institutions from this asset class.
The rise of peer to peer lending platforms (in both the debt and equity space) has been very noticeable in the last decade. Almost non existent until 2010, crowdfunding amd peer to peer lending has taken off in the US and rest of the world, with players from LendingClub and CommonBond in the US, as well as Crowdcube and Seedrs in the UK. Peer to peer lending is fairly high in interest rate versus bank loans, but many students will have no other choice, particularly those with a lower credit score. P2P and private loans now account for around 8% of the total student market.
Government-backed loans are often considerably cheaper given the relative credit rating of government bonds to other equities investments. Most of the student loan debt market consists of federal government (public loans) with fixed lower rates, and less credit related scrutiny over students.
Silver Lining: Wrapping it all up
The education market continues to grow all over the world with changing demographics, a younger and growing population. With universities reacting by hiking prices, students often need to go to external finances to fund their education. For retail and institutional investors, student loan backed securities could help bring liquidity and drive down the overall price of student loan repayments, very much in line with trends around the sharing and gig economy. That said, risks around underlying security and consolidation will always remain, and it’s sustainability constantly challenged.