Best’s Special Report: Student Loan-Backed Securities: Top of the Class or Not Making the Grade?

OLDWICK, N.J.--(BUSINESS WIRE)-- U.S. student loan debt has ballooned to become the second-highest consumer debt category in the United States, attracting investors such as insurance companies that are interested in student loan-backed securities, or SLABS, according to an A.M. Best report. However, while SLABS are perceived as carrying less risk, there are concerns that the value of the debt has begun to outstrip the value of the asset, and as a result, the student loan industry may be the next market implosion are emerging.

The Best’s Special Report, titled, “Student Loan-Backed Securities: Top of the Class or Not Making the Grade?” notes that since 2003, student loan debt has increased more than five-fold, growing to more than $1.3 trillion as of first-quarter 2017. SLABS are viewed as highly reliable, according to the report, since this debt class has the advantage that they are backed by a theoretically durable asset, as most loans are guaranteed by the government and bankruptcy is forbidden. The insurance industry holds approximately 5% of the total SLABS market, or roughly $8.5 billion as of year-end 2016, with the U.S. life/annuity (L/A) segment holding an additional $2.2 billion worth of SLABS in separate accounts. Excluding separate accounts, the industry has increased its investments in this asset class by 18.5% since 2012, with marginal increases below 2.5% through 2015, before a larger increase of 13.7% in 2016. The growth in 2016 was driven by the L/A segment, which reported a 22.8% year-over-year increase from 2015. SLABS issuance totaled $16.4 billion in 2016, an increase of more than 15% over 2015.

Despite the recovering economy, recent college graduates aged 25-34 continue to have the largest unemployment rate, approximately 4.6% in 2017. Students are taking on more debt to go to school, but their post-graduate gains have not kept up. Incomes have stagnated while tuitions have soared, resulting in a debt class that looks unrelated to the value of the underlying asset. As people of all ages carry student loan debt, a rise in the unemployment rate back to 2008-2009 levels could trigger a surge in student loan defaults if the U.S. economy were to enter another recession, likely creating a domino effect that would end up once again tightening the credit markets.

A.M. Best believes the insurance industry currently has a manageable exposure; however, companies that have overweight allocations to these investments need to monitor the performance of these securities and set an appropriate risk appetite exposure level as it relates to their overall risk profile. Diversification is a necessary strategy to reduce the overall risk profile of investment portfolios. A.M. Best will continue to monitor investment portfolio strategy decisions in this asset class given the uptick in insurers’ interest in 2016.

To access a copy of this special report, please visit http://www3.ambest.com/bestweek/purchase.asp?record_code=266640.

A.M. Best is the world's oldest and most authoritative insurance rating and information source. For more information, visit www.ambest.com.

Copyright © 2017 by A.M. Best Rating Services, Inc. and/or its subsidiaries. ALL RIGHTS RESERVED.

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Source: A.M. Best