Student Loans

Not sure if this should be under water cooler or investments…

Given the struggle I went through to refinance my private student loans, and the work I put in to map out a long term plan to handle them, I can’t help but wonder how others are handling this. I have a finance acumen, moderate sized student loans, decent comp, and work my ass off, yet it was quite difficult for me. I don’t believe my work-ethic is the norm (possibly not good for me as I think I may work too much) amongst my peers.

I hear talking heads say that “people” think student loans are the next bubble, is it?

I am looking for general commentary or thoughts. I’m trying to establish an opinion on the matter but feel as though there is much I don’t know.

Private companies are starting to package the high quality borrowers loans into abs (SLABS I believe?) I can’t help but wonder if they will dip into lower quality as the years progress and the demand remains.

Also, does anyone have an idea as to what percentage of student loans are variable? Most peers of mine that I know have variable rate loans and I’m wondering if that is the norm. I refinanced at a fixed rate that was approx. double the rate I was offered if I refinanced at a variable. It may prove the wrong move, but I can’t be certain I will have the cash flow to pay the loan off prior to rates increasing, part of me thinks most others will not think about it in this way.

I think this is a super-interesting topic. It blows my mind that students have to take loans for education at such young age (17-18yrs old)… but let’s get to some numbers.

(I’m working off memory, sorry if I make a mistake)

Student loans account for something around $1.2 trillion… It’s kind of a lot. I think the delinquency rates are very high too. According to some studies I’ve read, the delinquency rates are terrible for students who took a loan to attend a for-profit college. Otherwise delinquency rates are not very high. It’s ~15% for loans that went to for-profit college. It is ~2-3% otherwise. It is likely that delinquency rates are understated because many students are in the “grace period” and don’t even have to make payments yet. The average student debt is around ~$35k… but that can be affected by outliers… so I am not sure what to think about it.

Is it the next bubble? I don’t know… but I would stay far far away from SLABS.

more thoughts on the matter would be awesome

Personally, I think student loans are not in a bubble, but there are problems with them. Because things that are problematic can lead to bubbles, a lot of people say “student loands are a bubble” when what they really mean is “a lot of people are taking on debt that is going to be hard for them to service while meeting other needs, and I think that’s dumb, therefore I’m going to say it’s a bubble.”

A bubble means that something’s intrinsic value is way below the market value, and the world is at risk of discovering this or coming to agree on this at the more-or-less the same time, leading to a pop where the commodity or security’s price gets reset to a fraction of it’s value that only a short time before seemed impossible to believe. That’s different from a slow deflation where something that had been valued highly stops growing and/or drops in price. Bubbles popping often lead to forced selling, which helps the price crash even faster.

Now student loans are one of the most protected instruments out there. You cannot even escape them via bankruptcy. So it seems very likely that those projected payments are going to be coming in more or less on schedule, only mass unemployment on the level of Spain or worse is going to make a wave of defaults on student loans happen. Plus, parents often help out in the early years. Instead, people are going to have to cut elsewhere to make room for student loans that can’t be discharged. This tells me that while student loans might take a haircut here and there, they aren’t going to pop like a bubble. It’s a fixed income instrument that doesn’t have an exit clause like a foreclosure. Some people might move out of the country to escape, but it’s hard to imagine large swaths of people who can’t afford pay their loans finding the cash to move out of the country permanently and set up shop elsewhere.

That said, people are taking on student loans because not having a college education leaves most of us unable to compete for much other than minimum wage jobs. Going to college improves things but even that is not as helpful as it used to be. So people take on the loans to improve their chances but without guarantees. Most people are going to be able to make the payments but grumble incessantly. Maybe one day government will change the rules, and that will require a resetting of student loan pricing, but they will almost certainly grandfather existing loans or provide some kind of compensation, like buying them, perhaps with a haircut, but not a dramatic loss.

So, it’s a problem that students are graduating with debt that is hard to service, and that’s bad for the economy, but the investors in student loans are pretty well protected, so I don’t see a big “pop” coming.

Usually a bubble comes with a big price run-up beforehand too. I haven’t looked at the numbers lately, but I don’t think people have been making money hand-over-fist on student loans lately. It may be that colleges have to stop raising tuition at faster than inflation rates, but that’s going to affect future loans more than existing ones.

Now, if student loans start becoming dischargeable in bankruptcy, then there is more risk of a bubble, but even that might be manageable, and likely will not have the same effect as the housing bubble, where someone else’s default on their mortgage suddenly pushes down housing prices and makes it more likely that other mortgages will be underwater.

Also think this is a really interesting topic.

Bchad makes the point that they are heavily protected, even from bankruptcy, but I wouldn’t be surprised to see that change under political pressure when the rubber begins to really meet the road on these things. To cebrach’s point too, a lot of debt holders are still operating under grace periods or other mechanisms for delaying payment so you still have another foot to fall there.

There have been a rise in closures of small private schools that frankly were charging too much unsustainably. For schools, a small drop in enrollments quickly makes the whole cost structure unsustainable since most costs are fixed and the schools at the margin (small private schools) are extremely exposed. Mark Cuban has been a huge advocate of the bubble in secondary education, you can look up a lot of his comments on the subject online. He bought years ago which functions as a counter to drive home his point.

To me, the impacts to the US economy are massive and create huge distortions a lot of people are not aware of yet. Firsty, there’s the obvios impact to demand. You have this ballooning debt load on stagnant median wages and a shrinking middle class and that should tell you a lot about our future ecnomic growth estimates. You also have this shift where men less likely to go to college in recent years, but female enrollment is increasing. This, despite a persistant female wage discount AND the increased likelihood of women to take breaks for maternity. So you’re left with a blue collar male paying down white collar debt in some cases.

In that regard, most of these US domestic consumer demand models still in use by economists were built with a different regime in mind and really don’t account fo the shift to this new low earning, highly indebted demographic. Then there’s the impact to the housing market as starter houses increasingly become less attainable. This filters through to things like the consumer goods, home improvement, etc that are major parts of the consumer economy and has the effect of delaying the formation of households and children. All of which generate consumption and also create the mechanism for long term economic growth.

But if we step outside of all of that it has an effect on this wave of spending people expected when the baby boomers retire and begin to spend their savings. A major problem is that the under 40 generation is increasingly reliant on parental support that in some ways subsidizes these stagnant wages. As children become an open ended liability, retirees are more likely to leave more money socked away as a backstop to thier kids. This also hurts near to mid term consumption.

To be clear, I think there are two separate questions here. Are student loans in a bubble, and the more general question about what are the consequences of a system where we can no longer assume that the earnings differential provided by of a college degree (which is real) will be sufficient to pay off the costs of going to college (debt-financed or otherwise). In other words, what happens when the NPV of a college education to the individual goes to 0 or worse.

If student loans are in a bubble, that means that the investors in student loans (i.e. the lenders) stand a sizeable risk of substantial losses in not just interest payments, but also principal. I don’t think this is likely because 1) student loans are heavily protected, and 2) if regulations on these are loosened up, there will almost certainly be insurance, or grandfather clauses, or some system of purchasing existing loans with tax dollars to protect existing lenders as part of the political bargaining process to make it happen. They may get haircuts (i.e. less than they expected), and there may be reschedulings, but they are probably not going to be facing 30%, 40%, or higher losses on portfolios of student loans.

Also, student loans are not nearly as large a segment of the fixed income market as the mortgage market. One problem with the mortgage situation was that foreclosures pushed down the costs of housing which put more people underwater. It constrained the economy rapidly when people could no longer use their homes as an ATM which threw people out of work, leaving them unable to pay their existing mortgages, leading to more foreclosures, and pushing prices down further. The feedback loops in the student loan system are not nearly as vicious. It’s true that if someone sees that their friend got out of a student loan somehow, they might try to do that too, that’s about the extent of the feedback loop. Few people are expecting recent graduates to start spending money with abandon, so if they take longer to start spending, it’s not going to tip the economy into recession the way that home price slowdown (and then contraction) did.

Now, if you have an ABS that is highly leveraged, like some kind of waterfall structure that gets wiped out if default rates creep up a percent or two, those guys are likely to have problems, but no one should invest in a leveraged structure like that if they aren’t prepared for that possibility. That’s caused by the structuring, and not the underlying security.

To the extent that there is a bubble, it is likely in the price of a college education, and not the student debt that is taken on to pay for it. People may simply stop going to expensive colleges or find other ways to get an education. We haven’t figured out the model yet, but it’s clear to a lot of people that another model for education is needed, and there are at least some attempts to set up alternatives. So colleges may slowly find that if they can’t push themselves as an elite brand that funnels to the highest paying jobs, they simply cannot charge what they have been charging.

I personally think what is liekly to happen is that we get a kind of pay-as-you-go a-la-carte online vocational training, perhaps with brick-and-mortar support locations (like kaplan), where companies train people to do the tasks that they need and no more or less; companies then will value experience more than a college degree. This will be a lot cheaper than schools that have to build dorms and gyms and student unions and student health centers.

There are a whole set of issues that are cropping up as one has a generation of students under the current system who can’t pay off student loans because they are just too large. As BS said, they are going to be putting off lots of decisions like buying homes, furnishing them, starting families, etc., and in an economy driven by consumption, that’s going to put downward pressure on economic growth.

There’s also a question about some of the soft skills that are needed to get young adults into the working place. A company might pay for education for a skill they need right now, but things like leadership, how to work in teams, etc., may get pushed further back onto either parents or the public (and private) school system in K-12 or community colleges. There are things that people learn in school that business may benefit from but don’t feel like paying for.

An interesting question is whether it will be possible to refinance student loans in a way that they could be discharged in bankruptcy. For example, if one currently issues a cash-out refinancing of a home, and then pays off student loans with them, you have the same level of indebtedness, but now one can default on it and have a foreclosure. It may be hard to do that with unsecured loans, simply because of lending limits, but this is one thing that might start happening.

Fast forward a year and half from the last post and the question remains…are we in a student debt bubble? I would venture to say that we are. This WSJ articlecame out with an article claming that 40% of students are not making payments on their student loans.

Another article claims that Americans owe $1.3 trillion in outstanding loans on college debt(auto loans are close behind). And its surpassed only by…you guessed it…mortgage debt at $8.25 trillion. Could a crisis in the student loan market create a chain reaction or be the first “domino” to fall that starts the whole thing? It possibly could…but currently with student loans going delinquent at the rate claimed by the WSJ, one has to ask, why isn’t there a crisis already? Its because the burden and debt is being transferred to the American taxpayer through debt forgiveness and such. So do we have a student debt problem or does America just have a debt problem period.

But back to the point at hand, and a closer look at some numbers… if a person Google’s interest rates for student loans, they are at about 4.45% at the moment which seems quite low. I would say realistically they are probably closer to 6%. Lets say for example that a student has $50,000 of debt coming out of college with the standard loan length or term being 10 years. If I plug that intothis calculator, it spits out monthly payments of $519 dollars per month. With an average salary of $48,000 coming out of college according to survey, $519 seems like a payment that would be tough, but not impossible. And says the average payment is $351/mo. That totally seems doable to me…but I may be more disciplined than a student coming out of college.

So maybe we aren’t in a bubble after all. When a person hears the numbers, they just seem insurmountable but somehow, time just keeps ticking by. Maybe I’m not thinking about it correctly. Let me know if someone disagrees with any of these numbers.

I think we could be in a small bubble, but I’m just an armchair observer. Its not anything as large as the subprime bubble. My reason for saying this is the amount of people I meet who get massive loans without many exit opportunities. They quite literally enter a program with a low job placement rate or unusable major compared to the amount of debt they take on. With that being said, I don’t know what it takes for a loan to be forgiven, but have heard of the topic.

You are not alone if you have just begun your college studies and are still attempting to find out how to pay for school. The National Center for Education Statistics estimates that new students in the Class of 2016 had an average student loan debt of $37,172.

Student loans short term can be a great option for you if you are looking for a way to get started in your career and pay off your debt quickly.

… blah blah blah, etc.