Structured Products and Related Credit Derivatives: A Comprehensive Guide for Investors

CHAPTER 6

Student Loan ABS

Erin K. Walsh

Associate Analyst

Wachovia Capital Markets, LLC

The increasing cost of education and rising college enrollments have propelled the rapid growth of student loan asset-backed securities (ABS). The purpose of this chapter is to provide a guide to understanding the prepayments, risks and structural characteristics of student loans. In addition, we discuss generic structures and provide statistics for the largest issuers.

BACKGROUND

Investing in a college education generally yields high returns for students. The mean income is 74% higher for a bachelor's degree graduate versus a high school graduate. The Higher Education Act (HEA) of 1965 opened the gates for federal financing of post-secondary education. Under this act, the Federal Family Education Loan Program (FFELP) was created. FFELP is a public-private partnership that provides a federal guarantee for loans to students and their parents.

As the cost of education has risen, limits on FFELP loans have remained stagnant. This mismatch has increased the “funding gap,” which is defined as the cost of education minus the expected family contribution. Demand to fill the funding gap has led to considerable growth in the private credit sector.

Prepayments for FFELP loans exhibit large, quarterly spikes due to consolidations. Recent amendments to the HEA eliminate the number-one reason to consolidate. In a rising interest rate environment, the opportunity to consolidate floating rate loans into one ...