Fitch Ratings expects a growth in rehabilitation (rehab) student loans. Although rehab loans have always comprised a part of FFELP SLABS, their unique characteristics and performance history make separate assumptions necessary when analyzing student loan pools that have this type of collateral.
After the recent economic downturn, the supply of such loans should rise. This increase is from those borrowers who previously defaulted on loans start to re-perform, are reinsured by the U.S. Department of Education, and become eligible for inclusion in student loan ABS deals, Fitch said.
Rehabilitated defaulted loans regain FFELP status after the borrower has made at least nine on-time payments in 10 months, the rating agency reported. Rehab loans generally defaults are more front loaded than typical FFELP collateral.
According to Fitch, considering their unique collateral characteristics and performance history, Fitch’s assumptions for rehabilitated student loans vary from those for traditional FFELP originations. The rating agency thinks that rehab loans have higher default risk, even though the U.S. government guaranty helps lessen this risk. They also exhibit some unique characteristics that could affect cash flow to varying degrees such as the loss curve is assumed to be more front-loaded.
Additionally, not like traditional FFELP and other consumer loans, rehab loans are usually sold at a discount to par in the whole-loan markets. The discount is usually brought on by factors aside from credit risk, including liquidity and cost of funding. This can present added risk for certain ABS deals where the sponsor might not have the same incentive to service a given portfolio.
"The timing and magnitude of defaults for rehab loans can adversely affect cash flows for student loan ABS," said Managing Director Michael Dean.
The risks that rehab loans have are also mitigated in FFELP rehab ABS since sponsors are typically separate from servicers, and FFELP servicing is a highly regulated industry.