Student Loan Asset-Backed Securities: The Next Market in Crisis?

Recent media reports highlight the looming student debt crisis, with its link to the student loan asset-backed securities (SLABS) market, as the potential catalyst for the next financial crisis. Contrary to these reports, the authors show that tighter underwriting standards, stronger internal credit enhancement, and stricter credit ratings during the last decade have reduced the credit and liquidity risk exposures of SLABS, and the yield spread has rationally reflected the degree of credit enhancements in private SLABS and the risk of “technical” defaults in public SLABS. However, as public policy debates on student loans come under the spotlight, investors should still be vigilant of the potential impact of any policy actions that could increase the systemic risk of the SLABS market. TOPICS: Asset-backed securities (ABS), financial crises and financial market history Key Findings • Despite the looming student loan crisis, credit and liquidity risks of student loan asset-backed securities (SLABS) have been well contained and rationally reflected in the yield spread. • The SLABS market’s strong credit enhancement, small market size, and low return comovement with stocks and bonds do not justify the fear that the SLABS market will be the catalyst for the next major financial crisis. • Investors should still monitor the ongoing public debate and policy propositions of student loans, which could potentially change the landscape of student loans and indirectly affect the systemic risk of SLABS.