State Of Student Loan Asset-backed Securitization


Securitization is the process whereby illiquid assets or rights are pooled and transformed into tradable and interest-bearing financial instruments that are sold to capital market investors. Interest and principal payments from the assets or rights are passed on to capital market investors through a securitization special purpose entity. Reference portfolios may contain assets such as vehicle loans and leases, residential mortgages, commercial mortgages, credit card receivables, student loans, or brand and franchise royalties that are generated by a company or a financial intermediary (Deloitee, 2018). Student loan asset-backed securities, or SLABS for short, are securities consisting of numerous student loans pooled together. The SLABS deliver scheduled coupon payments much like an ordinary bond. The selling of SLABS allows lenders to move their credit risk to several investors. In theory this allows for a more efficient loan market and creates better means for students to finance their education (Gustav Rehnman & Ted Tigerschiold 2016).

SLABS in student loan programs

Student loan-backed securitization, also known as student loan-backed bonds (Lazzaro, 2008), is a creative process of raising funds. In Student loan asset-backed securities (SLABS), borrowers make monthly loan payments and student loans are impossible to discharge in bankruptcy proceedings. But a great majority of student loans are backed or supported by the government which never require a credit check. The process of asset securitisation is a new and innovative financing method used for funding and risk management purposes (Giddy, 2000). The technique of asset securitisation involves the separation of good assets from a company or financial institution and the use of those assets as backing for high-quality securities that will appeal to investors. The assets, financial claims or contract securing future revenue flows, are typically sold to a special purpose entity that is independent of the originator’s credit (Giddy, 2000). Student loans are characterised with an increased demand due to the rising HE costs, the higher resources needed by students and their families to fund their education, and the enlarging population and increasing number of people pursuing degrees. Student loans has been identified as one of the four core asset classes financed through ABS (Fried and Breheny, 2005) and it is expected they will continue developing in the future.

Securitization is underutilized in many student loan programs, could be used to reduce risk and create market price for assets. Securitizing student loans tends to force third party sales for accurate accounting, reduce debt, and provide inputs for academic institutions to improve the education sector. Securitization is only possible if the loans are valued accurately by the Department of Education through fair accounting principles to minimize the losses when the loans are sold. Once the loans are valued accurately, securitization provides a method to deleverage government risk through sales to private investors—there is already current, viable market demand. Finally, if academic institutions are required to share the losses, or gains, from securitization—much like originators of asset-backed securities have risk retention requirements, then institutions will receive feedback from a third-party market-pricing mechanism as to whether their educational product is a quality investment. (Harl. L. Rev., 2012). It is normal for the cash to be advanced in a securitization to be raised through an issue of bonds by a special purpose vehicle (SPV), a company formed for the purpose of receiving the stream of income. Because the only asset of such a company is its entitlement to the income, an issue of this kind can only raise capital at an acceptable cost if the service payments on the bonds are guaranteed by a substantial insurer. The insurer, as is the way with insurers, will make its own conditions and these will be aimed at safeguarding, so far as is possible, the streams of income on which the bond service payments depend. The contractual terms through which this is achieved must tread a fine line. If the risk is reduced too far the transaction will fail to qualify as a sale. If it is reduced insufficiently the bonds may fail to achieve an investment- grade rating (Peter Armstrong).

In the private sector, expense may be a secondary consideration. There may well be circumstances in which the immediate availability of capital is more important than its cost. These range from one-off investment opportunities to last-ditch efforts to keep ailing companies afloat. Even in normal times, securitization may be attractive as a means of raising capital for investment since it does so without increasing debt on the one hand and without increasing share capital on the other. If the investment produces income in excess of that committed to the SPV, the result will be increased earnings per share without an increase in the debt-to-equity ratio. For all of these reasons, private sector securitization has arrived – according to an interested party at any rate – as a mainstream source of finance (Moller, 2000; de Vries and Ali, 2006, 2007). The past few years, however, there was an increased tendency to promote the securitization of income streams either in the public sector itself, or in private companies which receive their income from public funds. The technique of asset securitisation includes separation of good assets from financial institutions and the use of these assets for securities.

Dr Jayashri S Patil
Honorary council member- India Education Forum
Head Research and Innovation- Teamlease Services Ltd.