Student loans are in a $1.3 trillion bubble, Goldman Sachs says

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  • The $1.3 trillion student-loan market is a “bubble,”
    Goldman
    Sachs
     strategists said in a recent
    note. 
  • The banks believes the market for asset-backed
    securities refinanced by private lenders like SoFi “may offer
    relative value” compared to public student-loan
    securities.
  • Asset-backed securities bundle pools of loans with
    similar risks that investors can profit from when former
    students make their payments. 
  • Although student loans are in a bubble, Goldman doesn’t
    see them as a risk to overall financial stability.

 

Student loans have grown to become the largest source of consumer
debt in the US besides mortgages.

According to Goldman Sachs, the outstanding student loan balance
has reached $1.3 trillion in face value, about the size of the
high-yield corporate-bond market. This outstanding debt is not
without problems, as it delays
homeownership for some millennials
and cuts their disposable
income. 

Although the “bubble” is getting bigger, it’s not a risk to
overall financial stability, Goldman’s Marty Young and Lotfi
Karoui said in a recent note. In fact, there’s one segment of the
market that’s emerging as an attractive investment.

It’s the $190 billion of outstanding loans that are held within
asset-backed securities (ABS) refinanced by private lenders such
as SoFi.

With these securities, lenders pool loans that have similar risk
profiles and sell them as instruments in the public markets.
Investors profit as graduates pay back their principal and
interest. 

“The new so-called ‘marketplace’ student loan ABS sector —
involving private refinance loans made to super-prime borrowers —
has so far had strong credit performance, and may offer relative
value vs. public student-loan ABS,” said Goldman’s Marty Young
and Lotfi Karoui in a recent note. $150 billion of
asset-backed securities (ABS) are associated with loans that are
guaranteed by the US government. 

“Recent marketplace student loan deals have featured
borrower pools with average credit scores above 770 and average
borrower incomes above $160k: a very different credit profile
than the government guaranteed portfolios.” 



Screen Shot 2017 12 08 at 11.42.10 AM

Goldman
Sachs

Student-loan asset-backed securities have been popular with
investors this year, along with other types of risky credit
securities like junk bonds, as the hunt for higher yield
intensified.

Because spreads on student-loan ABS have tightened a lot this
year, Goldman doesn’t see much scope for further gains in the
broader sector.

But the market for securities associated with privately
refinanced loans remains attractive. 

Goldman also urges caution. Student loans may be second to
mortgages by the outstanding debt load, but overall, missed
payments dwarf the lending market for housing. Also, it’s
still a relatively new part of the market, meaning that it may be
challenging to build predictive models for it.

However, “the low loss rates to date suggests that the small but
growing sector may be worth a look,” Goldman said.

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