Tuesday, December 30, 2008

So...what's happened?

As the bomb blast shock begins to wear off, and we look around through the haze, how are things shaking out? Well, last fall our elected delegates removed profitability from the FFELP program. Most participants have left that market. It's simple: no profit, won't play. It seems that mostly banks are continuing to make FFELP loans. Albeit, they're not marketing the product like the old days, but if you ask, you can get a FFELP loan from a bank -- mostly the larger, diversified banks. They have a low cost of capital (deposits and TARP money), and can justify the low margins as a loss leader to cross sell other banking products. Of course, the number of banks continue to shrink, but that's a story for another blog. Also, FFELP consolidation loans are a thing of the past. Let us know if you find anyone making those loans.

But if that weren't enough, the credit crunch wrenched the marketplace even further. This affected primarily the private ed lenders. Anyone with a line of credit either had it revoked or it was priced unprofitably. The result? Most non-bank private ed lenders shuttered their doors. What's left is an environment where only pristine credit worthy customers can now secure one of these loans.

So, you need a loan to go to college? Pretty much all you can get now is a Stafford or PLUS loan. And the Dept of Ed's Direct Loan program is making loans, so the FFELP products are out there and you can indeed secure them. There's just no choice. You can't choose your lender/servicer, you can't shop around for discounts anymore. We're not so sure this is what Congress intended, but it's the result.

Monday, December 29, 2008

We're not really recovered...

....from our depressed state of the student lending industry. But we'll resume posting here.

Been getting lots of gossip from many industry participants. So, we'll continue to highlight here say, gossip, and unverified "facts". A lot of stuff that y'all send us we can't really distribute (loan volume data for a specific entity, etc), but we'll certainly discuss anecdotal information.

We'll start posting more regularly in a day or so, but to sum up the past 6 months: Yecccch! The industry for the most part is being facilitated by the Dept of Ed's "direct loan" program. That's pretty much the only place where you'll get a Stafford/Plus loan (or any other guvm't guaranteed loan). There's a few others out there, but Direct seems to have picked up the volume....and we eat some crow here: our predictions of a Direct Loan meltdown didn't materialize. We have no information/data/feedback about application servicing issues, but that's probably because the Dept of Ed is handling the volume. We're pretty sure that ACS is the sole outsourced partner to do the actual work....Sallie Mae tried to get some of the business, but we never heard where that went.

As for private loans: the only folks getting approved for a private ed loan are those that can demonstrate that they don't really need the loan in the first place. If your FICO score is less than 720, don't even bother to apply. Nobody is lending to an applicant that even smells like a credit risk. We're sure this disruption will be causing problems.

Anywhoo, we'll get to all this over time. Stay tuned.

Tuesday, June 10, 2008

FFELP runs like a top!

This isn't' the first time we've seen this story before. It crops up several times a year. It's a scam to defraud FFELP out of proceeds. But you have to ask yourself: Does this happen very often with other types of unsecured lending (i.e. credit cards, personal loans, etc)?

Our bet is that yep, it does happen...but not to the tune of $2.2 million per instance. See, a private lender loves their money. It's how they make money. So if a private lender flushes money down the toilet, they cannot allocate that money to make more money. The government, on the other hand, merely asks the Dept of Treasury for more money when they screw up. There's no accountability or consequences for this sort of thing.

Yet another reason why FFELP needs to be privatized with the help of a well placed US government guarantee.

Sallie Mae to the Rescue!!!! well...so it seems

Sallie Mae is out there advocating their commitment to the FFELP program! Whew! Because we thought FFELP was dead. Sacrificed. Non-existent.

So we called Sallie Mae to get hooked up with a Stafford loan. We went to their website, got the phone number for "Apply Now", and after 15 minutes on hold, we gave up. That must have been an anomaly. So we tried again. This time we gave up after 20 minutes. Then we directed 3 staff members to do the same. One fell asleep. One had to go to the clinic for a hurt wrist after playing solitaire for 25 minutes. And the third had to get "something to eat" after 20 minutes (staff are insubordinate sometimes).

Our observation: Sallie Mae is indeed open for business.....good luck in getting them to answer the phone!

Monday, June 2, 2008

So, How is the Credit Crunch effecting student lending?

This article is pretty typical of how student lending firms are getting squeezed by the credit crunch. Keep in mind, and this is important, this is only half of the problem. And this situation only effects the state agencies, the monolines, and "non-profit" lenders. The banks aren't so much effected by the credit crunch in the same manner.

But, this article describes how the auction rate securities market, a typical borrowing vehicle for student loan companies, has reacted to the liquidity situation and the impact on making student loans. A few things worth further consideration: 1) Brazos, whom this article details, is a "non-profit", monoline lender. Meaning they have a not for profit status with the IRS. We wonder how they can be "non-profit" and not really a state agency or anything like that. It's our opinion that there were huge profits generated from the Brazos organization. Where did all that money go? Brazo's is tightly controlled by the Murray Watson and his family. We're sure the Watson's know where the profits went. It's just not public knowledge. 2) An additional consideration, how come these auction rate securities financing student loan issues are in a pickle? 98% of the underlying loans backing these student loan securities are backed by the full faith and credit of the United States government. It just seems illogical to us. And, 3) Although not an issue in this article, but something that crossed our minds: how on earth can the Department of Education buy and price student loans in a secondary market environment? The DoE doesn't do this for a living. They have NO expertise in pricing student loan issues. They have NO experience in managing secondary market operations. This is a complicated deal the DoE is proposing, yet they have no experience, expertise, or vision of how their loan buying program will work. We predict failure. The markets cannot figure it out....do we really want to rely on the DoE?

Tuesday, May 27, 2008

Interesting twist on the First Marblehead consideration

A recent post at Seeking Alpha points out a FMD consideration we completely forgot about. [And we might also point out, wasn't in the sights of FBR either.]

FMD bought a bank in Rhode Island last year; albeit, a modest community bank: Union Federal Savings Bank. It seems that FMD has quickly adapted the bank to become a cost effective liquidity source for First Marblehead's student loan business. Thus, engineering a non-ABS funding ability.

Seeking Alpha has drudged through Union Federal's balance sheet and garnered some insight into the how the new owners are leveraging this institution. Essentially, brokered deposits are financing First Marblehead's direct to consumer business. For the time being, it seems that the bank is on a sound capital base and indeed making money.

Our worry is the same as FMD in general: how will these loans hold up in uncertain economic times? How will these loans hold up during a period when the private student loan market dynamics changed in a very short period of time? It will become a matter of credit underwriting and credit operations. We personally do not think that underwriting and credit ops is a strong point for FMD, but time will tell. Watch FMD's portfolio reporting and losses at Union Federal for indications of how things will likely shake out.

To be sure, the banking regulators will probably be watching the situation with a close eye as well. Using a banking charter to serve First Marblehead in this manner probably isn't making many friends with the bank examiners.

Check it out for yourself, but certainly an interesting angle that no one else in the business is working.

Thursday, May 22, 2008

Friedman, Billings & Ramsey think First Marblehead looks like a deal

An analyst from FBR today indicated that First Marblehead looks like an attractive takeover target.

Um, we don't think so. FBR sites their origination platform, brands, and database have value. Let's take each one of these.

The origination platform isn't rocket science. There are a number of off the shelf platforms that can be implemented so that perfunctory work can be accomplished in low wage regions of the world or USA. We mentioned before that student loan monolines aren't really that good at lending. FMD is a little different in that the founders are seasoned bond traders. They understand the importance of a good platform, but it was never their primary focus. FMD was really good at executing securitizations and leveraging their network. We give the origination platform a B-.

FMD brands were created out of thin air. Consumer products and services do this all the time so the same product may appeal to different segments of the population. In terms of the brand awareness and respect, First Marblehead didn't come up with anything earth shattering. They just threw out brands like their affiliate marketers and competitors. There was no innovation in their branding or marketing. Our grade for FMD brands: C-.

FMD's database? We don't see any value here at all. Every marketer/lender has a database. FMD's isn't especially large or doesn't carry any information that cannot be found from existing consumer databases or credit bureau's. FMD is hardly known for their data prowess. Our grade for FMD's database: C-.

In fact, we speculate (solely our opinion here), that FMD may be a liability. Why? Because their secondary market deals squeezed ALL future value from the loans at deal time. They were extracting 11%-13% premiums out of their deals; that's really spectacular. But now their guarantor is bankrupt, and there's no fat to subsidize losses. Speaking of losses, FMD underwrote loans based on a booming economy. Whoops....the economy has turned south...way south. How will their loans perform in an uncertain economic environment? We don't know. Neither does FMD. Nor Friedman, Billings & Ramsey. The trust income from FMD's securitizations may very well not support the bond p&i obligations for reasons we mentioned above. Just our opinion, but we're certainly entitled to it.

Sallie Mae to remain in the market

We're a little confused on Sallie Mae's decision to continue marketing and funding FFELP products. It's a little unclear how they will make money at this.

We did point out yesterday that student loan monolines aren't really the sharpest tools in the shed when it comes to financial services. Has Sallie Mae stumbled on a marketing and processing epiphany that will allow them to drastically reduce costs in order to make a profit in this world of the DoE as investment banker? Is Sallie Mae merely playing lip service to appease the administration and congress while they lobby like starved wolved to get the Student Loan Sunshine Act repealed? Or, is this just a really bad business decision based on the promises the Department of Education has made? We just don't know.

What we do know is this: it is unprofitable to make FFELP loans. It not a function of "where's the money coming from?" Using a Wall Street investment bank, and certainly using the Department of Education as an investment bank, will NOT amend the lending landscape for FFELP loans. Structurally, the congress has torched the business model.

Wednesday, May 21, 2008

Still Upside Down!

So the Department of Education thought and thought about it, the industry waited with baited breath, and here's what they came up with: Lenders can sell their loans to the Department of Ed for 100 basis points + $75.

Nope, that's not gonna get people back in the game.

Let's take a little example: a Stafford loan...the vanilla sort....say $3,500 in principle. A lender would be able to sell that loan to the DoE for (3,500 * 0.01) + 75 = $110. That's right....a lender would be able to pocket $110 for funding this loan. It seems like a lot until we compare that with the associated costs.

Let's say, on average, marketing expenses, and we're being conservative here, per loan are $50. That assumes the lender has a kick-ass marketing department -- which by the way, student lenders have very sloppy and unsophisticated marketing efforts, so this number is probably 2 or 3 times higher than our efficient $50 per loan figure. Now that the marketing department has secured the application, the lender must now process the loan, this isn't a free process: we'll presume this costs about $30 per loan. Again, we're assuming a highly efficient loan operations group -- and you guessed it, very few efficient loan operations exist in student lending. And there will be funding costs. In order for the loan to be funded, even though the DoE will ultimately be replacing the capital, those funding structures must be organized. This effort primarily utilizes investment bankers, lawyers, and commercial bankers. The costs aren't cheap; a funding structure of a modest size can cost up to half a million dollars plus ongoing maintenance fees. For simplicity sake, let's assume there's a funding cost of $20 per loan.

In our greatly simplified, and unrealistic assumed world, that comes to a per loan revenue of $110 and expenses of $100. For a total profit of $10! Or, in terms of ROI, that's a 9.1% return. Not bad? No, not too bad. But considering this is a temporary program, and you'd be doing business with the government (the Department of Education no less!), there are unquantifiable risks here that in reality shrink that 9.1% return down to a loss! The government has yo-yo'ed the FFELP program so many times, that bank transfer costs have a significant legislation/regulation risk premium built in.

It's still not worth it. And here's the main problem: the Department of Education decided on an arbitrary profit amount. The Department of Education is good for doing things like shuffling paper, issuing memo's, promoting bureaucrats. The Department of Education is not good at, in fact horrible, at modeling the market forces in a loan origination industry.

Not to mention, it's not the lack of capital that hindering the FFELP business....it's the, you guessed it, the profit incentive. It will all be quite interesting. This fix will blow up before the elections take place. At some point our elected delegates will have to admit failure.

Tuesday, May 6, 2008

Rep Miller will have some explainin' to do

Yesterday's WSJ (Monday, May 5, 2008) didn't back down one bit from their parry-thrust with Rep. George Miller.

Rep. Miller volleyed back last week reiterating the soundness and logic of his plan to save the federal student loan program. We didn't buy what Miller was selling. And apparently neither did the WSJ.

Their recent Op-Ed piece more or less states what we regularly rant about here, but with better journalistic style. We'll provide a few snippets here:

"....the lenders whose business models Congress recently torched....."

"So Representative George Miller, another architect of last fall's
disaster....."

"Mr. Miller,...,has suddenly found an inordinate faith in the ability of the
Administration to play the credit markets."

"But in 1997 the direct lending system crashed as a large federal
bureaucracy was - here's a surprise - unable to process paperwork quickly
enough to serve borrowers."

"From start to finish, it is hard to imagine a more thorough example of
Congressional blundering while covering its tracks by blaming everyone else and
getting the Fed and taxpayers to clean up the mess."

Oh, this is good stuff. The Wall Street Journal is gonna ride this one all the way. Their criticism has only just begun. Make sure you read their whole piece. It was truly inspiring.