Editor's note: This is the seventh in a series of 10 articles revisiting some of our most-read stories of the past year.
Generous repayment plans have soured many investors on bonds backed by federally guaranteed student loans. But it could have been worse.
These programs slow the rate of repayment on Federal Family Education Loans, putting the bonds they back at risk of technical default if the securities fail to pay off at maturity. When Moody’s Investors Service and Fitch Ratings raised the alarm early in 2015, eventually putting some $100 billion of bonds under review for downgrade, the market sold off heavily. New issuance ground to a halt.
Yet Navient and Nelnet, the two largest student loan servicers, avoided downgrades on $19.5 billion of FFELP bonds. They did so using a strategy that, at first, did not seem promising: extending the maturities of the bonds. While simple in principle, this solution was complicated by a requirement that 100% of investors in a tranche approve the change. Without consent from every single holder, no matter how small, an amendment cannot pass.
Their efforts were aided by DealVector, an online registry of asset ownership and messaging platform, which helped the two servicers identify holders and collect votes. This undoubtedly helped restore confidence in the sector, allowing Navient and Nelnet to resume issuing FFELP bonds, even though some investors, including banks and credit unions, continue to view the asset class skeptically.
“If we hadn’t been able to extend maturities, it definitely would have been harder to sell FFELP bonds,” said Greer McCurley, executive head of capital markets at Nelnet.
The market revival, in turn, encouraged banks to resume unloading FFELP portfolios. In April, Navient reached a deal to acquire $3.7 billion of FFELP from JPMorgan Chase. It issued nearly $4 billion in FFELP bonds across four offerings in 2017. Nelnet completed three FFELP securitizations totaling nearly $1.5 billion.
Like other kinds of financial assets, FFELP bonds are held “in street name” by a brokerage firm, bank, or dealer on behalf of a purchaser, obscuring their true ownership. Normally, if an issuer wants to solicit consents, sends forms to the trustee, which needs to log onto the Depository Trust Company and complete a form, which then goes out through different systems to the custodian. The custodian must process it and send it to the beneficial owner’s back office, which then needs to deliver it to the appropriate portfolio manager.
By comparison, when investors register directly with DealVector, “on the same day that Navient provides consents to trustees, they give it to DealVector. We load it into the system, and it’s in a portfolio manager’s inbox within 20 to 25 minutes,” said DealVector co-founder and CEO Michael Manning.
Navient was the first to partner with the vendor and its first consents went out around March 2016, Manning said. Nelnet did its first consents some four months later, in July 2016, he said.
It’s not clear how much more FFELP bonds might have sold off if Navient and Nelnet hadn’t been able to extend the maturities of so many bonds, avoiding, or in some cases reversing, downgrades. The servicers took other actions to avoid downgrades, including repurchasing bad loans from securitization trusts and calling bonds at risk of not paying off at maturity.
However, neither Fitch nor Moody’s looks at these other strategies as favorably as it does maturity extensions.