Thursday, January 28, 2016

Restudying Student Loan ABS

What ever happened to Student Loan ABS deals (aka SLABS)?

Back in 2005 they were "[displaying] exceptionally strong credit quality."  But those same deals -- not just 2005-2006 vintage subprime crisis era concoctions -- have taken a turn for the worse. The storm of circumstances surrounding SLABS that is now coming to light and causing losses and downgrades is not dissimilar to that which surrounded crisis-era RMBS deals.

We visited 18 trusts from the National Collegiate Student Loan Trust (NCSLT) shelf, comprising a total of 140 tranches.

Not all tranches performed poorly.  Several of those tranches had paid down in full.  But all 18 trusts have tranches outstanding (89 in total) and all of these outstanding tranches, including those initially rated AAA, are currently rated in junk territory or deep junk territory by both Fitch and S&P.   (However, Moody’s has held some in the investment-grade region, and for full disclosure, some downgraded securities are on S&P's watchlist for possible upgrade.)

Anatomy of a SLABS

Let’s take a closer look at one tranche of one deal in particular, The National Collegiate Student Loan Trust 2003-1 A-7, an originally-rated AAA tranche of a 2003 vintage deal ... a deal that started accumulating losses in 2004.

The following table shows the initial and current ratings of the four outstanding NCSLT 2003-1 tranches:

This trust is not atypical, and thus worthwhile to examine as a representative deal. Tranche A-7 consists of floating rate notes with a notional of $250 million and a maturity of 8/25/30.  At the time of issuance, the principal and interest of these private student loans were 100% guaranteed by The Education Resources Institute, Inc. (TERI), which was at the time of closing rated Baa3 by Moody’s. TERI subsequently folded into bankruptcy, but that's only part of the story, and not a central concern, at least for the A-7s.

In addition to TERI's support, at initiation, tranche A-7’s credit support additionally consisted of subordinate tranches B-1 and B-2 ($41.25 million each) plus a reserve fund of some $88 mm.

The AAA ratings started to disappear in 2008 -- Moody's began downgrading in 2008, with Fitch and S&P following suit in 2010 --  and the ratings deterioration has continued since then.

By June 2013, Moody's reported that their projected lifetime default % of the original pool NCSLT 2003-1 was at the time at 40%, higher than the break-even lifetime default rate of 34%. Thus, per Moody's, our beloved A-7 tranche would not fully repay by its maturity date.

A full timeline of activity follows at the bottom of this post.

Meanwhile, in Ohio...

Adam Beverly reportedly took out a $30,000 student loan from Bank One, N.A. in September 2003. His mother, Linda Beverly, acted as cosigner of the loan.

According to one of Bloomberg News’ sources Beverly’s monthly payments were initially around $120 when he entered repayment and subsequently increased to more than $600. The story has it that he was reportedly bounced back and forth between First Marblehead and National Collegiate when he tried to discuss his payments, and he stopped making payments in 2009. The Beverlys reportedly hired a debt negotiation company, Student Loan Relief Organization (“SLRO”) to negotiate payment arrangements for the loan.

On April 16, 2012, the National Collegiate Student Loan Trust 2003-1 Trust filed a lawsuit against Adam Beverly and his mother Linda demanding repayment of the loans. Upon receipt of the summons, Linda Beverly called their SLRO contact, who said he would “take care of it.” After several weeks passed, her contact stated that SLRO would be unable to accomplish anything on the loan.

Linda and Adam Beverly purportedly attempted to contact the attorney representing NCSLT 2003-1 and Ms. Beverly also spoke directly to individuals at the National Collegiate Student Loan Trust who could not find any record of the loans.

The trial court granted default judgment against Adam and Linda Beverly on June 25, 2012. The default judgment awarded the 2003 Trust damages of $43,713.22, accrued interest of $5,017.42 through April 4, 2012, and interest at a variable interest rate from April 5, 2012.

Adam and Linda Beverly appealed, and a panel of Ohio Supreme Court judges vacated the default judgment on September 30, 2014. They found that NCSLT filed a complaint in its own name, on notes payable to someone else, without alleging or proving assignment of the notes. In other words, NCSLT could not produce any documents showing that it owned the Beverly student loan. 

NCSLT also sued Adam Beverly for a loan taken out in 2005 and packaged in NCSLT 2006-1, with a similar result.

The Takeaway

A difficult economy and high unemployment among graduates has led to a high level of defaults in the loans underlying NCSLT 2003-1. If Adam Beverly’s case is at all representative of NCSLT or FMC’s standard practices, the negotiation process (outside of the courts, at least) has not exactly been mastered. Indeed National Collegiate trusts have filed more than 4,000 lawsuits since 2011. Student debtors are fighting back as well, with judges in several states finding that the trusts haven’t proved they own the debt.

We see shades of the RMBS debacle here, with sloppy record-keeping.  Massachusetts AG Maura Healey, who likely has a wider lens, reportedly labels them “abusive loan debt-collection tactics."

These factors are leaving some borrowers without relief, and trusts at times with no legal recourse to collect on their debt. Not to mention some investors in AAA rated debt have been stuck with the resultant junk.


The following timeline details the steady downfall of NCSLT 2003-1, according to Moody’s research and ratings.

06 Jan 2004
Moody’s announces investment-grade ratings on 10 classes of SLABS issued by the NCSLT 2003-1, including Class A-7, rated  Aaa.

26 Mar 2008
Moody’s downgrades TERI to B2 from Baa3, TERI’s initial rating (previously unchanged since 1996).

07 Apr 2008
TERI files for Chapter 11 bankruptcy protection.

08 Apr 2008
Moody’s downgrades TERI to Ca from B2.

5 Jun 2008
TERI reportedly discloses in a motion filed with the bankruptcy court that, going forward, FMC will voluntarily bear all the costs associated with the collections process for loans 61-180 days delinquent. Up to May 31, 2008, TERI paid for the collection activities performed by FMER.

10 Oct 2008
Moody’s withdraws TERI’s rating.

30 Oct 2008
Moody’s downgrades NCLT 2003-1 A-7 to Aa3 from Aaa. Moody’s cites two factors leading to this downgrade:
  1. Higher than expected cumulative defaults. 
  2. The possibility of disruptions in the collections process.[1]

11 Mar 2009
A Special Servicing Agreement is entered into by 12 National Collegiate Student Loan Trusts, including 2003-1, formalizing the role of FMER as Special Servicer and naming U.S. Bank N.A as the Back-up Special Servicer. The Special Servicing Agreement allows for an increase of the servicing fee by 0.01% per annum and a $12,000 per annum fee paid to Back-up Special Servicer in addition to the reimbursement of expenses incurred up to a limit for performing Special Servicer's obligations.

11 Mar 2009
Moody’s downgrades NCLT 2003-1 A-7 to A1 from Aa3.  Per Moody’s, “The rating action is primarily the result of worse than expected collateral. Moody's revised the projected cumulative net loss as a percentage of the original pool balance from 15-17% to 21-27%.”

30 Sep 2010
Moody’s downgrades NCSLT 2003-1 A-7 rather dramatically, from A1 to Caa1. The downgrade resulted from:
  1. A significant deterioration in collateral performance. (Cumulative gross defaults are in excess of 18% of the original pool balance.)
  2. FMC was providing static pool cumulative default information by repayment year and loan type on a quarterly basis, which was restated by FMC in May 2010 to reflect higher defaults. Expected losses were revised upward on the basis of this information, and on 2003-1 this amounts to 28.6% of the original pool balance.
29 Nov 2010
TERI emerges from bankruptcy, which allows $264 million to be released to the trusts to pay down notes.

03 Jun 2013
Moody’s downgrades NCSLT 2003-1 A-7 to Caa2 from Caa1. The underlying student loan pools continue to deteriorate in performance. Lifetime expected net losses increased to 32.8% of the original pool balance. The expected losses primarily stem from the weak economic environment and the high unemployment rate.

25 July 2013
Moody’s reports that their projected lifetime default % of the original pool NCSLT 2003-1 is now 40%, which is higher than the break-even lifetime default % of 34%. Thus, the junior-most tranche, A-7, will not fully repay by its maturity date. 

Other Parties to the Deal (as of Closing)

Servicer: The primary servicer of the student loans is Pennsylvania Higher Education Assistance Agency (PHEAA), which services approximately 99% of the loans. PHEAA is responsible for servicing the loans up until the time of default, including sending payment statements, collecting payments, maintaining records, and remitting funds to the trusts. PHEAA only performs the collection function on loans that are up to 60 days delinquent

Servicer of delinquent loans: First Marblehead Education Resources (FMER), a subsidiary of First Marblehead Corporation (FMC), is responsible for collections on loans that are more than 60 days past due.

Administrator: First Marblehead Data Services Inc (FMDS), wholly owned subsidiary of First Marblehead Corporation.

Trustee: U.S. Bank National Association, Wachovia Trust Company National Association

Lead Underwriters: Deutsche Bank Securities, UBS Financial Services Inc.

[1] FMC had reportedly deposited cash into a specified account to cover the servicing costs over the next 12 months, but there was reportedly no back-up arrangement for collections, which exposed the trust to potentially higher default rates and lower recoveries on the collateral.


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