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High Rate of Student Loan Defaults Fails to Deter Investors


March 14, 2013
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Student Loan Default Can not be Dismissed Through Bankruptcy

More Americans are carrying student loan balances now than ever before and defaulting on their balances at even higher rates. Despite the risky nature of this borrowing category, however, it appears that student loan securities are in high demand by investors.

The Federal Reserve Bank of New York recently reported that Americans owe roughly $970 billion in student loan debt, more than triple the amount the country shouldered eight years prior. In addition, the shaky job market, double-digit increases in rent prices, and a slowly recovering housing market have resulted in higher rates of loan default, particularly as bankruptcy law does not typically allow federally-backed student loans to be discharged during proceedings. Nevertheless, the current environment has not deterred investors from participating in the student loan securities market, and has instead led to an explosion in demand for these products.

A recent Wall Street Journal article noted that investors’ demand for this category of securities demonstrates “the lengths they are willing to go to generate returns in a period when interest rates are hovering near record lows.”

Despite the fact that more than 30 percent of borrowers are 90 days or more behind on payments, private education lender Sallie Mae recently announced it had sold $1.1 billion worth of new securities backed by student debt, according to the Atlantic. Further, there was 15 times more demand for the highest-risk, highest-return batch than there was supply, the Atlantic added.

The growing demand for risky securities is reminiscent of the market scenario that eventually led to the mortgage crisis, and many analysts are calling student loans the next “bubble” on the verge of bursting. However, other industry professionals argue that student loan securities still make up too small a market share to do considerable damage and most of the loans are backed by the federal government. Although many are speculating about the ways in which the spike in risky securities investing might impact the economy, the number of investors participating in the student loan market does not appear to be slowing down.

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