Will There Eventually Be a Private Student Loan Refi Boom?

I was thinking about this question after my post on Friday that the margins on student loan had expanded by 550bp over the last two year.  As I alluded to in the post, there are myriad reasons for this increase which include:

• Higher cost of funding for lenders.  Although it is worth noting too that some lenders seem to be taking advantage of the low cost of bank deposits today and not necessarily passing this on to student borrowers.  Clearly, the standstill in the securitization markets has had an impact here.
• Repricing of risk by lenders.  With defaults and delinquencies rising across all private loan portfolios, lenders have a heightened sense of risk about these unsecured loans that are being made to 18-year old students.  They are compensating for these risks both in terms of pricing as well as requirements that borrowers have a cosigner.
• Supply/demand dynamics.  Supply of capital available to make loans is down while demand remains quite strong as tuition rates continue to increase and other sources of funding have dried up or seen a significant decline (home equity/529 plans/investments). 

First, I should note that there are private loan consolidation lenders out there, but as this post demonstrates there appear to be only two options available today:  Wells Fargo and Chase.  The typical rationale given for consolidation today is to package up multiple loans into one consolidated loan while also extending the term of your loan to 20-30 years.  So, what makes me think there will be a student loan refi boom at some point in the future?  Short answer:  1000bp over LIBOR (SLA estimate for average margin today) is a lot of margin for a refi lender to work with.  

Longer answer:  Student loans tend to be long-term in nature, most have terms between 15-25 years. 

The loan margin (e.g. with a rate of LIBOR + 10%, the +10% is the margin) is set by the lender at origination and does not change over the life of the loan.  The exception to this would be situations where the lender offers a lower interest rate (0.25% to 0.50%) upon graduation (Discover, SunTrust or Wells Fargo) or for signing up to have payments automatically debited from borrowers' accounts.  While the margin remains fixed over the loan period, the risk profile of the student drops dramatically based upon several events:  1) Graduation; 2) Gets a full-time job; 3) Demonstrates a strong repayment history (24/36/48 months). 

When (or if) capital becomes more readily available, it would seem that this situation where a low risk borrower is paying LIBOR + 10% would be arbitraged away, as capital providers offer these borrowers the opportunity to refinance at a lower margin.  Perhaps this is wishful thinking on my part, but I am pretty confident that there are entrepreneurs in garages devising business plans to seize this opportunity.  Stay tuned...

Comments

[Robin Smith]

Education is all important. Many of the banks are providing loans to the student. The loans is to be give back by them during their course completion. Your blog is really a good one regarding this.

http://studentsblog2.blogspot.com/2009/09/impact-of-student-loans-disaster-in-uk.html

[Jonathan Paul]

Student loans haven’t always stuck to debtors, even those in bankruptcy, like glue.By allowing students to take out massive loans they had no intention to pay. But over time, this exception has evolved to include private student loans.