Asset-backed securities come in all shapes, sizes and, in some cases, levels of destruction. The meltdown of subprime mortgage-backed securities triggered the collapse of the credit markets and rise of the Great Recession.
Could student loans, which, too, are securitized and face rapid defaults, be another market bubble on the brink of a burst?
Recent data obtained by the Chronicle of Higher Education concludes 20% of federal student loans that entered repayment in 1995 have since gone into default. And analysts’ recent notes about the market for student loan asset-backed securities (aka SLABS) offer a somewhat supporting argument that the trend will only get worse:
- Earlier this year Standard and Poor’s Ratings Services voiced concerns about pending legislation in Congress that would let borrowers toss their private student loans away under Chapter 13 bankruptcy, much like credit card debt or auto loans. If the proposal becomes law, the S&P believes “there is an increased risk that recovery rates could decline and default frequencies could increase as borrowers look to use bankruptcy strategically.” Overall the ratings agency has a negative outlook on the SLABS market.
- Ratings agency DBRS noted this year that “the performance on existing private student loan asset backed securities throughout 2010 may well continue a long term trend of deterioration as a new slug of graduates enter repayment in a very challenging economic environment characterized most notably by a weak job market.”
But Mark Kantrowitz, publisher of FinAid.org says there’s no threat of a bubble bursting. In fact, he argues, there’s no bubble to begin with. A bubble involves investor speculation leading to extremely inflated prices. But the price of a college education, Mark says, is “driven largely by fundamentals.” “There is no secondary market for buying and selling a college education,” he says.
He also stresses the fact that most student loans – about 90% – are federally-backed and guaranteed. So if the relatively small market for private SLABS goes belly up, it wouldn’t cause much of a stir. “Even if there were an increase in default rates, it wouldn’t cause a collapse of the capital markets,” says Mark. Plus, as he points out, federal education loans since July 1 of this year have been made through the Direct Loan program, which, again, stem from the federal government. “[Student loans] don’t suffer from liquidity constraints…or more to the point, if the US Treasury were to have trouble raising funds, we’ve got bigger problems than just student loans,” he says.
Mark is pretty convincing, but I’m not closing this debate here. Maybe it’s not a “bubble” but this is a brewing crisis that demands critical attention. More to come, including my interview with Alan Collinge, author of “The Student Loan Scam: The Most Oppressive Debt in U.S. History — and How We Can Fight Back. Collinge is also the founder studentloanjustice.org.
Image by The/Waz via Flickr