Tag Archives: SLABS

SLABS: How to make money off someone else’s private student loan

SLABS

SLABs, and no we aren’t talking about the stuff of which patios are made, or the tiles that can be laid on kitchen floors. Nor, are we talking about some Silicon Valley laboratory firm.  Let’s focus on Student Loan Asset Based securities.  Yep, “securitized” assets – like mortgages, auto loans, credit card receivables, etc.  We do remember the mortgage thing? Right?

SLABs were hot in 2013. [WSJ]  In fact, see if you can make sense of the following description:

“Student loans are souring at a growing rate—and investors can’t seem to get enough. SLM Corp., the largest U.S. student lender, last week sold $1.1 billion of securities backed by private student loans. Demand for the riskiest bunch—those that will lose money first if the loans go bad—was 15 times greater than the supply, people familiar with the deal said.” [WSJ]

Why would investors be banging on the doors for those loans which are the most likely to go into default?  I think we’ve seen this movie before, and the ending (2007 – 2008) wasn’t pleasant for anyone.

The Basic Materials

Once upon a time Sallie Mae or SLM, was a government sponsored lending firm specializing in student or educational loans.  That was the case until 2004 when Sallie Mae went private and it’s now a publicly traded private sector corporation. SLM securitizes private education loan by selling them to the SMB Private Education Loan Trusts. The Loan Trusts (2014 and 2015) show “issuance details” online (here’s 2014-A)  There was $382 million in the August 7, 2014 records; divided into five categories with varying rates of return. Scrolling down we find the ‘master servicer’ as Sallie Mae Bank, the sub-servicer as Navient Solutions, Inc., the indentured trustee being Deutsche Bank National Trust Company, and the underwriters Credit Suisse and the Royal Bank of Scotland. [SLM]   Navient Solutions, Inc. is simply the name adopted in 2014 for Sallie Mae’s loan management, servicing, and asset recovery operation. [Bloomberg]  An ‘indentured trustee’ is:

“A financial institution with trust powers, such as a commercial bank or trust company, that is given fiduciary powers by a bond issuer to enforce the terms of a bond indenture. An indenture is a contract between a bond issuer and a bond holder. A trustee sees that bond interest payments are made as scheduled, and protects the interests of the bondholders if the issuer defaults.” [Investopedia]

The underwriters, in this instance Credit Suisse and RBS, are the firms which act as sales personnel for the bonds bases on securitized private student loans.  So, we have SLM issuing the bonds, Deutsche Bank National Trust acting as the agency responsible for bond registration, transfer, and payment of bonds, while Credit Suisse and RBS are the ones selling the bonds.   Sounds impressive, however those private loans comprise only about 8% of the total student loan market – the remaining 92% are Federal Stafford and PLUS program loans.  But – the numbers are still sufficiently high to interest SLM, Deutsche Bank, Credit Suisse and RBS, because there’s about $92 billion involved in the private student loan market. [PSL]

Slabs without much mortar

Recall for the moment what got Wall Street in major trouble during the Housing Bubble.  Investment firms issued bonds, and then played with derivatives based on those mortgage based bonds, without being all that sure the loans were going to be paid off.  Thus, it was extremely difficult, and in some instances impossible, to calculate what the bonds were actually worth. Enter the credit rating agencies who (for a nice fee) stamped AAA+++ on what should have been recognized as piles of garbage; the investors couldn’t get enough of these, so even more garbage piled up as the investment houses bet on whether or not the assets were worth anything.  Enough garbage was included in the piles of paper that the whole pillar of paper crashed.

What’s saving us from the prospect of another bubble of epic proportions is that the market in private student loans is very small – that $92 million is a drop in a very large bucket of corporate and commercial debt. [Atlantic]  Another bit of good news is that because of the Dodd-Frank Act there is more transparency required in dealings in asset based securities.  [SEC]  [WSJ] The bad news is that Republicans in Congress have been wailing for the repeal of the Dodd-Frank Act as “burdensome regulation” of the banking industry.  Or, “make the SEC back off and let us get back to trading asset based securities like we used to in the Good Old Days.”

Who’s holding up the scaffolding?

Another bit of bad news is that while lenders are looking for new customers (students willing to take on private loans) we’re not tracking some important information about those loans.  For example, the default rate for Harvard is less than 2%, while the default rate for the Arizona Automotive Institute is nearly 42%.  [Bloomberg] Interestingly enough, there’s a long list of for-profit educational institutions with default rates higher than 28%. What we don’t need to see are more for-profit training schools encouraging more private student loan debt, debt which someone somewhere hopes will be hedged with private loans more likely to be paid off – because at bottom the funds to pay investors have to come from students paying off the loans.

Don’t panic yet, yes – there’s a hungry market for student loan asset based securities (perhaps in part because some old Federally backed loans were in the pipeline originally) and the market is relatively small albeit subject to some of the valuation mistakes of the Old Investment Houses – the ones who went bust in 2007-2008.   There’s another reason for hope: The Consumer Financial Protection Bureau – the agency the Republicans can’t seem to wait to dismantle. [DB 7/30/14]

One of the provisions of the Dodd-Frank Act was the creation of an ombudsman for student loans which is part of the CFPB.  In the 2014 annual report (pdf)  it’s of interest to note that the biggest problem area was NOT repaying student loans but in getting financial institutions to cooperate with repayment programs and dealing with servicers and lenders (57%). If this sounds like a reprise from the Mortgage Meltdown Days it might be because some of the same actors are involved, at least in terms of complaint volume: JPMorganChase up 56% from 2013; Sallie Mae Navient up 48%; Wells Fargo up 8%.  The annual report indicates problems in the following areas: (1) There is no clear path to avoid default. (2) Proactive outreach from borrowers was too often unsuccessful. (3) When repayment options are made available they are too often too little too late. (4) In some cases repayment options were allowed only after the loan went into default. (5) Short term forbearance options were often associated with processing delays, unclear requirements, and unaffordable fees. (6) Many lenders force a choice between staying in school and repaying the loans.   There is a reason for the Ombudsman’s concern. The Sallie Mae Settlement.

The FDIC announced a settlement with Sallie Mae on May 13, 2014 in which Sallie Mae was charged with (1) inadequately disclosing its payment allocation methodologies to borrowers while allocating borrower payments across multiple loans in a manner that maximizes late fees; (2) misrepresenting and inadequately disclosing in its billing statements how borrowers could avoid late fees; (3) unfairly conditioning receipt of benefits under the SCRA upon requirements not found in the act; (4) improperly advising servicemembers that they must be deployed to receive benefits under the SCRA; and (5) failing to provide complete SCRA relief to servicemembers after having been put on notice of the borrowers’ active duty status.

The Structure

As long as the private student loan market remains a small part of the total structure we can breathe a bit easier about its effect on capital markets. Secondly, the private student loan market has relatively low yields and thus doesn’t get included in most structured derivatives.  Third, the old ‘recourse loans’ (for those with really low credit scores) are a thing of the past, most private loans now take higher scores into consideration. [QuoraWhat will continue to keep investors whole?

  • Continued monitoring of the private student loan market by the CFPB so that loans taken out will continue to be loans paid off, even if this means some reduction in the revenue streams for the bankers.
  • Continued oversight by the SEC and FDIC under the terms of the Dodd-Frank Act so that we don’t return to the Wall Street Casino of old should there be changes in the private student loan market.
  • Improvement in the servicing of private student loans such that there are clear pathways to avoid default; effective and efficient communication between borrower and lender regarding repayment options; and, that this communication happens in a timely manner.
  • Requiring lenders to make all the term of the private student loan clear at the outset including forbearance conditions, and any and all fees associated with deference, late payments or defaults.

The Foundation

From a Wall Street perspective private student loan asset based securities are a niche market, with some revenue potential – enough to keep the big banks interested – however, not with enough total clout to cause major financial displacement should the Quake happen.  And yes, there are some institutions making nice fees for making student loans, selling student loans, securitizing student loans, servicing student loans, and collecting payments on student loans.  Capitalism works, the trick is to keep free market capitalism from becoming casino capitalism and/or financialism.

A more existential question is how to maintain a system in which students are burdened with so much debt (Federal program/Private loan program) that they are deferring consumer purchases which would contribute to the growth of the overall economy.  Deferred student loans can impact mortgage qualifications. [credit.com]  We know this because the  rate of homeownership among those with student debt is 36% below that of unencumbered home buyers, and we’re losing about $6 billion annually in new car buying capacity.  [Forbes]  And, this is not an inconsequential problem:

“Student loan debt is the only form of consumer debt that has grown since the peak of consumer debt in 2008. Balances of student loans have eclipsed both auto loans and credit cards, making student loan debt the largest form of consumer debt outside of mortgages.” [NYFed]

Given some of the trends reported by the NY Federal Reserve’s study of educational loans, how do we make sense of an economic system in which wages and salaries are stagnant while it is taking those from lower and middle income backgrounds longer to repay student loans?  How do we sustain an economy when 29% of borrowers are paying off their loans, while 34% are making regular payments but the balance is increasing, and 20% have reported credit related problems, with another 6% delinquent and 11% in default?

These are not simply economic issues, they are also political as well. Is there the political will to make post secondary education more affordable for more people?  Are we headed toward the privatization of our public institutions of higher education and post secondary training, and is this trend combined with the rising level of student indebtedness creating cracks in our economic foundations?

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Filed under consumers, Economy, education, financial regulation, privatization

Happy Fourth of July: A More Perfect Union

Flag July 4th

It’s a good 4th of July weekend.  The benefits of citizenship have been affirmed for members of the LGBT community, but as the founders told us we’re on a path to create “a more perfect union.”  Therefore, there’s more work to be done to insure that housing, employment, and other areas of American life aren’t stumbling blocks of discrimination. We will have to keep up efforts toward building that “more perfect” union.

Ravenal Bridge

There may be some dead-enders, some battle flag flying remnants of blatant racism, but no matter how hard the Klan and their allies try, their proposed demonstration will be nothing compared to the thousands who walked along the Ravenal Bridge in Charleston, South Carolina.  We’re closer to being a nation of people who are taking Dr. Martin Luther King Jr.’s message to heart:

“When evil men plot, good men must plan.  When evil men burn and bomb, good men must build and bind.  When evil men shout ugly words of hatred, good men must commit themselves to the glories of love. “

At least two churches in the south have been the target of recent arson attacks, so in order to form that more perfect union it’s time for people of good will to build and bind.   It’s been a long walk from the bridge in Selma to the bridge in Charleston, but we’re getting there.  We still have to acknowledge the often painful accuracy of Winston Churchill’s backhanded compliment, “You can always count on the Americans to do the right thing, after they’ve tried everything else.”  

In a more perfect union, we’d not have maps showing that a person earning minimum wages cannot achieve a point at which only 30% of his income can pay for a one bedroom apartment.

Rent map

The darker the blue the worse the problem.  We’ll have a more perfect union when we address the complications of living on inadequate wages.  It does no good to march behind banners proclaiming that hard working Americans should “save for the future,” – when simply meeting basic needs for food, housing, and adequate clothing consume all the family’s income. It takes us no closer to a more perfect union to proclaim, “if the poor would just work harder they’d get ahead,” when elements of our judicial system, parts of our educational system, and the myopia of commerce combine to force workers into multiple jobs at minimal wages.  We are no closer to forming a more perfect union when we reward those who prosper at the expense of those who produce.

Unassisted graph

In a more perfect union this graph would be significantly lower.  How do we care for the least able among us? The learning disabled young man with nerve damage, but not quite enough to meet disability standards?  Unmarried, with no dependent children, unemployed except for odd jobs paying about $10 per hour?  A victim of child abuse, and now a victim of a system in which he doesn’t qualify for benefits because he’s never been able to find employment which sustains them. [Reuters]

We’ll be a more perfect union when we are more aware that the able-bodied are not necessarily able to fully function in our modern economy.  In a more perfect union there is more educational, job, housing, and food support for those who live on the margins of despair.

I look to the diffusion of light and education as the resource most to be relied on for ameliorating the condition, promoting the virtue and advancing the happiness of man.” Thomas Jefferson to Cornelius Blatchly, October 1822

And yet:

“About seven in 10 (69%) college seniors who graduated from public and private nonprofit colleges in 2013 had student loan debt. These borrowers owed an average of $28,400, up two percent compared to $27,850 for public and nonprofit graduates in 2012.   About one-fifth (19%) of the  Class of 2013’s debt was comprised of private loans, which are typically more costly and provide fewer consumer protections and repayment options than safer federal loans.”  [TICAS]

In a more perfect union, education advances the “happiness of man,” not merely the bottom line of banking institutions, and certainly not the unrestrained avarice of some for-profit operations who once having the federal funds in hand look to more recruitment without much concern for those already recruited.

And, then – predictably – there’s the Wall Street Casino, which has created SLABS (Student Loan Asset Based Securities).  While certainly not in the mortgage meltdown class, these are problematic because:

“What I find most disturbing about SLABS is that they create a system where an increase in tuition (and the debt-burden on the borrower) equals an increased profit for the investor. When you consider the role that unscrupulous speculators played in the mortgage crisis, one can’t help but wonder if a similar over-valuation of college tuition is taking place for the benefit of SLABS investors. With the cost of attending college increasing nearly 80% between 2003-2013 while wages have decreased, it’s no wonder that so many people are having difficulty paying off their student loans.” [MDA]

This situation is NOT the way to “diffuse light and education.”

There are countless other topics and issues on which we might dwell, assistance for the elderly, transportation, trade, economic security, police and community relations, infrastructure issues, voting rights,  domestic terrorism, domestic violence, gun violence, climate change … the list is  as long as the population rolls, as we try to create that more perfect union of imperfect human beings.

What we need is Churchill’s optimism – that eventually, after avoiding problems, exacerbating problems, tinkering with problems – we’ll do the right thing.

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Filed under banking, civil liberties, education, financial regulation, Global warming, homelessness, income inequality, Minimum Wage, poverty, racism

They’re Back: Banks, SLABS, and the Opponents of Dodd Frank

bankerThere are several reasons the Banker’s Boys in the U.S. Congress would like to rip the guts out of the Dodd Frank Act.  There’s a reason they fought the creation of the Consumer Finance Protection Bureau, and more reasons why the 113th Congress has tried to grab control of the agency, strip the agency of funding, or otherwise make the Bureau a hollow shell of protective camouflage for the bankers.  Here’s one of those reasons:  The Securitization of Student Debt.

Flashback: On August 29, 2012 the Consumer Finance Protection Bureau issued a report on student debt. (pdf)  One section of the Executive Summary contained information which ought to have triggered some alarms:

“From 2005–2007, lenders increasingly marketed and disbursed loans directly to students, reducing the involvement of schools in the process; indeed during this period, the percentage of loans to undergraduates made without school involvement or certification of need grew from 18% to over 31%. As a result, many students borrowed more than they needed to finance their education. Additionally, during this period, lenders were more likely to originate loans to borrowers with lower credit scores than they had previously been. These trends made private student loans riskier for consumers.”

Sound familiar? Have some of the tonal qualities of the Subprime Mortgage Debacle? Over-extending credit, to the less credit worthy, placing them at greater risk of default, and doing it during the Great Housing Bubble?

Flashback 2005: Indeed, by 2005 there was a new bit of jargon in the world of fixed income investments — SLABS, or Student Loan Asset Based Securities.  The definitions can be illustrated by this information from one part of the securities industry:

“Student Loan ABS (SLABS) can be appealing to fixed income investors because they offer high credit quality, credit stability, and low spread volatility. SLABS backed by federally reinsured loans command tight spreads, in roughly the same range as deals backed by credit card receivables or auto loans. SLABS backed by other loans (so-called “private” student loans) command somewhat wider spreads, reflecting incrementally greater perceived credit risk.” [Nomura 2005 pdf]

Not to oversimplify too broadly, but there it was in 2005, a description of asset based securities (packages of student loans securitized into financial products) divided into two parts, the products based on guaranteed student loans and the less secure private student loans.  Note, please, that the advice on offer in this report doesn’t apply to the students who took out the loans — it is advice for “fixed income investors.”

Have we mentioned, at least a gazillion times, that one man’s debt is another man’s asset?  And so, the student loans were packaged (just like the home mortgages) by such dealers as Nelnet Student Loan Trust, Sallie Mae Student Loan Trust, Northstar Education Finance, Collegiate Funding Services, Access Group Inc., Education Funding Capital Trust, College Loan Corporation Trust, and others. [Nomura 2005 pdf]  Here we meet our old friend, the Tranche.

“A piece, portion or slice of a deal or structured financing. This portion is one of several related securities that are offered at the same time but have different risks, rewards and/or maturities.”

Perhaps it was that SLABS were sold as somehow being “safer” investments than their home mortgage cohorts, and maybe safer than the consumer credit securitized assets.  After all, the borrower couldn’t walk away from a student loan in most instances.  What could go wrong?

Flashback 2012:  What, indeed, could go wrong?

“Meanwhile banks have been slicing and dicing student loans into derivative financial instruments called “SLABS” — student-loan asset backed securities. We’ve seen this movie before — the one where big banks mass-market loans to a population with stagnated wages and dwindling economic prospects, then bundle them and sell them to investors who haven’t reviewed the way they were underwritten and sold.” [Eskow, HuffPo]

And, it all worked really well … until it didn’t.  There are those “derivative financial instruments” (read financial paper products) again, and again, and again.  In the wake of the derivative debacle of 2007-2008 the financial sector did some belt tightening and the CFPB was able to report underwriting and marketing changes which were far more responsible.  Additionally, the CFPB ‘autopsy’ of the student loan situation revealed some of the previous practices associated with economic issues:

#1. Some of those who took out private student loans did not understand that they had fewer repayment options than if they had assumed Stafford loans.  This sounds remarkably similar to the mortgage sales which didn’t quite lead to an understanding  about balloon payments, interest rate changes, etc.

#2. The private student loans were most commonly sold to people who were attending for-profit institutions.  While private loans were taken out by only 14% of the total undergraduates, students at for-profit schools held 42%.

And, to make matters even more murky, many of the loans were tied to LIBOR, which was perhaps not as above the board as one might have assumed before 2008. [TP]

July 28, 2014: If a person were thinking the provisions of the Dodd Frank Act, and the activities of the Consumer Financial Protection Bureau may have put more than a damper on the financial sector proclivity to create ways to peddle paper in order to create more ways to peddle paper — please think again.

Enter So-FI, Lending Club, and Prosper. “SoFi’s niche is refinancing student loans. But not just any loans. The kind of schools that are most represented in the program are selective colleges like Harvard, New York University and Northwestern. Their alumni provide the money — The students must also have a job lined up after graduation.” [CNN]  But wait, here comes the packaging. Compliments of Eaglewood Capital which securitized loans from Lending Club.

This time is slightly different. Did we notice that the packaged loans aren’t from the for-profit educational sector? Or, that most undergraduates won’t get re-financed via this new securitization scheme?  Low risk, coupled with above average returns and who might be interested in this newly peddled paper?  If you’re thinking we have the rich bailing out the rich for the benefit of the richer, the conclusion might be close to the target. Fitch explores the prospects:

“In our view, most future securitizations are likely to be concentrated with large non-bank servicers, who are also the traditional FFELP buyers. Of the 13 Fitch-rated FFELP deals that closed in first-half 2014, 10 were issued by Navient Corporation, Nelnet Inc. and the Pennsylvania Higher Education Assistance Agency (PHEAA). As some portfolio acquisitions include servicing transfers, we believe some small NFPs could experience lower account volume and profitability. These servicers are already facing sustainability issues, as some may not have the scale to weather the pressures brought by the Budget Control Act of 2011 and the termination of FFELP. They may also be pressured in the near term by rules proposed by Congress that would establish a common set of performance metrics, incentive pricing for servicers and allocate accounts to NFPs that meet the requirements.” [Reuters] *NFP = not for profit servicers

Those major players from 2008 (Nelnet, PHEAA, etc.) are still playing, and some of the newer participants in the game may not be so profitable in the long run because someone might be watching over their shoulders. “Under a law that took effect in March 2010, the government stopped making student loans through private companies that funded themselves in the market. The government now issues loans directly. Lenders sold $20 billion of student-loan securities last year, down from $62.2 billion in 2005, according to Wells Fargo.” [BloombergNews]

The good news may be that there is less Casino Activity among the bankers in the securitization of student loans, or the creation of SLABS. The bad news is that the bankers are going full bore to get rid of those pesky regulations and the CFPB which serve to put a lid on the Bubble Behavior of the recent past.

The July 23, 2014 session of the House Financial Services Committee took testimony from all the usual suspects on “Dodd Frank: Four Years Later.”  Rep. Hensarling’s Committee heard from the CEO of First State Bank, a partner in Treasury Strategies, an FMC representative on behalf of the Coalition of Derivative End Users, and a ‘resident scholar’ of the American Enterprise Institute.  The counter-balance? Former Representative Barney Frank.  The AEI testimony is instructive, [Pdf] if predictably repetitive.  A summary:

Regulation creates uncertainty, discourages investor due diligence, increases regulatory burdens, gives too much power with too little Congressional oversight, promotes a ‘naive strategy for promoting financial stability, and doesn’t solve the Too Big to Fail problem.

There is nothing new here, merely the recital of every anti-regulation talking point since the dawn of time.  However, redundant as the arguments may be, the  Republicans in the House of Representatives would very much like to repeal the Dodd Frank Act.  During the 112th Congress H.R 87, H.R. 1062, H.R. 1539, H.R. 1082, H.R. 1610, H.R. 1573, H.R. 1121, H.R. 1315, H.R. 836, H.R. 1223, @. 746, and  S. 712 were all introduced intending to either repeal or diminish the regulations in the Dodd Frank Act. In the 113th Congress, H.R. 46 is an outright repeal bill coming from Rep. Michele Bachmann (R-MN) Rep. Ted Yoho (R-FL) and Rep. Adrian Smith (R-NE)

The prospect of a wholesale repeal is dim, but not the notion that the statute could be ‘nibbled to death by ducks.’ [Hill]  House Republicans did manage to get one bill passed in June 2013 to restrict SEC and CFTC rule making capacities — arguing ironically that the agencies had 3 years to get the rules done and had not made enough progress — in the face of nearly overwhelming stalling tactics by financial sector interests and their litigators.

While the CFPB attempts to alleviate the more obvious abuses perpetrated by unscrupulous or unethical lenders, and issues annual reports (most recent 2013) noting that there were 3,800 consumer complaints about student loans, 87% of which were directed at 8 companies. The House Republicans persist in attempts to subject the agency to Congressional micro-management, if not outright dissolution.

We should expect the mid-term election rhetoric to mirror the testimony of the AEI in the most recent House Financial Services Committee hearing.  The Dodd Frank Act will be attacked “in general.” It’s reasonable to predict much will be made of the Too Big To Fail Argument, as if the consolidation of the financial sector is a function of federal statute rather than processes associated with the cyclical nature of financial enterprises.  It will be attacked as “too burdensome” for small banks.  It isn’t. It will be attacked as “big government.” Any attempt to reign in the Bankers will always be so characterized.

What opponents of financial regulatory reform won’t discuss is how the Consumer Financial Protection Bureau is attempting to guide the lenders and by extension their secondary markets into the construction of a more equitable, operable, less volatile, and more sustainable student loan sector.

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Filed under Economy, financial regulation, Politics