Jonathan Lepre and Adam Wood, Harvard University
Published by Aaron Gose
Student Loan Debt is a significant component of the economy that is hardly addressed and an issue that should not go unrecognized. The statistics are shocking, and investors at any level should understand the educational factors in accordance with how this debt burden impacts the broader economic system.
There is currently a total of over $1.48 trillion in student loan debt in the United States, tallying 44.2 million Americans carrying student loan debt on average of $30,000 per student. The student loan delinquency rate has now reached 11.2%, with the average monthly-required student loan payment of $351.
Median wages have increased close to 2% over the past 25 years, while median debt has risen close to 200% in that same time frame. One in every four student loan borrowers is either struggling to stay up to date on debt payments or in default. Student Loan debt late payments for more than a 90-day period has doubled over the past decade.
The problem is beyond the surface of substantial debt totals, with the more profound impact of consumer spending, unemployment, and consumer confidence. The current unemployment rate is 4.1%, but underemployment is double this rate at 8%. The U-6 is the most revealing of a country’s true employment situation because it covers underemployment. Underemployment could include individuals who have earned degrees and settled for a job well below their deserving pay caliber just because he or she is locked in to pay off student loan debt. This issue speaks to the supply of quality jobs in this country, as well as the underlying fact that this worker is now unable to stimulate the economy in discretionary spending due to the underemployment status. Competition is fiercer than ever in the job market for qualified candidates, as debt total delinquency rates are constantly rising in accordance with new student loan debt and underemployment.
Sophisticated investors have created clever ways to profit from the colossal student loan debt market. Student loan asset-backed securities are financial instruments based on outstanding student loans that investors can purchase. The security delivers scheduled coupon payments, as would a traditional bond.
The justification for SLABS is to diversify the default risk for lenders across multiple investment authorities. By pooling and packaging loans into asset-backed securities and selling them to other parties, agencies can spread around the inherent risk they take on from borrowers, which in retrospect allows them to issue higher and more frequent loans. The SLABS allow for a larger majority of students interested in financing their education with debt to have access to loans from the agencies listed above, and lenders receive cash inflows from their securitization without the default risk.
The issue with these types of securities is that default rates as mentioned above in the article are at above 11% and continuing to rise. We have seen this type of risk transfer in the past, and it resulted in the collapse of a market, as this is worth paying some close attention to. It is wise to keep an eye on rising debt totals and corresponding economic indicators, as this issue has been persistent for quite some time.