Credit Woes Hit Student Loans

[psguy]

<p>Credit Woes Hit Funding
For Loans to Students
By LIZ RAPPAPORT and RANDALL SMITH
Wall Street Journal
February 13, 2008; Page A1</p>

<p>The credit crunch that has so far caused more than $100 billion of losses for big Wall Street investment firms now extends to students in Michigan, and it could soon hit many other borrowers, ranging from California museums to the prestigious Deerfield Academy prep school in Massachusetts.</p>

<p>Yesterday, the Michigan Higher Education Student Loan Authority, a state agency, said on its Web site that "due to the current and unprecedented capital-markets disruption" it will stop making loans under the state's Michigan Alternative Student Loan, or MI-Loan, program. More than 100 Michigan colleges and universities participate in the program.</p>

<p>In the past few days, problems have mounted for many borrowers as an obscure -- but important -- corner of the credit market called auction-rate securities has gone into a deep freeze.</p>

<p>Borrowers ranging from student-loan authorities to municipalities to big bond funds depend on this market to raise money for making loans and funding projects. They do so by selling securities whose interest rates are reset every week as they change hands in auctions arranged by Wall Street firms like Goldman Sachs Group Inc., Citigroup Inc. and J.P. Morgan Chase & Co.</p>

<p>Moody's Investors Service estimates the size of this market at $325 billion to $360 billion.</p>

<p>In recent days, the money managers and other investors who typically buy auction-rate securities have been balking, out of fear the credit turmoil is spreading. The remaining bidders have commanded higher interest rates from borrowers including Deerfield, San Francisco's de Young Museum, New York's Carnegie Hall and many others. A call to Deerfield's finance department wasn't returned. The de Young Museum declined to comment.</p>

<p>Meantime, many investors who hold the securities would like to sell them but can't. Of roughly $20 billion in such securities auctioned yesterday, half -- or about $10 billion -- failed to generate enough demand from money managers to sell, according to one trading executive at a top dealer. That pushed up borrowing costs for the issuers to levels ranging from 4.6% to 18%, as their interest rates reset to "penalty" rates that kick in when an auction fails.</p>

<p>'Wave of Panic'</p>

<p>"I think this is a wave of panic, but it could signify a real change in the banks' tolerance for taking debt onto their balance sheets," says Matt Fabian, managing director of Municipal Market Advisors, an independent research firm.</p>

<p>Many of the more than 100 auctions that failed yesterday were held on behalf of closed-end mutual funds, which use auction-rate securities as a way to borrow to enhance the returns in their funds. The managers of these funds include such well-known names as Nuveen Investments Inc., BlackRock Inc. and Allianz SE's Pacific Investment Management Co.</p>

<p>Student-loan authorities in places like Mississippi and Montana were also on the list of failures, as were de Young and Carnegie Hall.</p>

<p>The Michigan student-loan authority wasn't on the list of failed auctions. It previously has issued auction-rate bonds, though it isn't clear whether that market was the cause of its current financial crunch. Spokesmen for the authority weren't immediately available for comment. In a memo Monday to the authority, Patricia W. Scott, director of Michigan's student financial services bureau, said, "This is attributable to the capital-markets disruption on our ability to issue new debt," and added that new lending to students would resume, "when conditions warrant and funds become available."</p>

<p>"If student loan providers are having trouble raising money, then that's a concern for us," says Justin Draeger, spokesman for the National Association of Student Financial Aid Administrators. He says the loans tend to go to low-income students. "If there's a problem with getting the funds, then they may not be able to pay for their education."</p>

<p>Peter Warren, vice president of government relations for the Education Finance Council, which represents nonprofit lenders and state lending agencies, said that while Michigan may be the only state yet to announce a student-loan halt, others are "seriously evaluating" the viability of their programs.</p>

<p>Problems in the auction-rate securities market have been mounting for days. Last week, about $3 billion in auctions of these securities failed. The tally of failed auctions grew as investor fears intensified. Wall Street firms generally stayed on the sidelines, taking few of the securities onto their books.One list of failures compiled by Citigroup and circulated by some market participants totaled $6.6 billion in securities in 105 auctions. But one person in the market said the amounts were larger.</p>

<p>The market allows borrowers with long-term financing needs to tap investors who want to hold short-term investments that can be readily turned into cash. Wall Street firms hold auctions of these securities regularly, allowing investors to roll them over with new interest rates or to sell them to somebody else. When auctions fail, which is unusual, investors like funds and corporate treasuries can find themselves suddenly saddled with long-term securities.</p>

<p>A big problem with some of these instruments is that they are insured by troubled bond insurers like MBIA Inc. and Ambac Financial Group Inc., which have sold guarantees on securities tied to ill-fated subprime mortgages. The insurers run the risk of losing their triple-A credit ratings because of their subprime exposure, and that, in turn, has investors running from other instruments they back. The Michigan Higher Educational Student Loan Authority has issued some auction-rate securities backed by such bond insurance.</p>

<p>New Rounds of Turmoil</p>

<p>Trouble in the credit markets has been cascading for months, with moments of quiet interrupted by new rounds of turmoil. Wall Street firms like Bear Stearns Cos., Merrill Lynch & Co., UBS AG and Citigroup have taken more than $100 billion of write-offs because of their mortgage-linked securities holdings. Along the way, problems rippled into other obscure short-term lending markets, like commercial paper tied to mortgages, and short-term funding entities called structured investment vehicles run by banks.</p>

<p>The new woes in auction-rate securities could be a problem for corporate treasurers who invest their cash holdings in the market.</p>

<p>Bristol-Myers Squibb Co. earlier this month recorded a $275 million charge, attributing it to the global credit crunch and its effects on the company's short-term investment portfolio. The company held some auction-rate securities tied to mortgage and corporate-bond debt.</p>

<p>Caught Off Guard</p>

<p>The charge contributed to a net loss for Bristol-Myers in the fourth quarter and it is now seeking a new treasurer. The company's chief financial officer, Andrew Bonfield, told analysts in late January that the company was unable to unload some of its securities in the auction process.</p>

<p>The problems in the market have caught many investors off guard. In the past, the Wall Street firms that conduct the auctions and underwrite the securities have often acted as a buyer of last resort. But with their own balance sheets already bloated with other assets they don't want to hold, Citigroup, Goldman and others are limiting their support for the market.</p>

<p>As one banker in the market said, they are not obligated to be "liquidity providers."</p>

<p>"It is like a multicar pileup," said one auction-rate securities trader. The trader says that investors saw last week's failures, and "people are nervous because they want to have a liquid product."</p>

<p>Spokesmen for J.P. Morgan and Goldman Sachs declined to comment, while a Citigroup spokeswoman repeated a comment she made Monday, saying the firm "has seen widening spreads, reduced demand for certain auction-rate securities and failed auctions, including some auctions which Citi acted as broker dealer."</p>

<p>The auction-rate securities problems could also affect the many closed-end mutual funds that use this market. The auction failures raise the specter that these funds could sell some of their assets as their financing costs increase.</p>

<p>"It all came to a head today. Investors wanted liquidity -- they're afraid of the next shoe to drop even if they don't know what the next shoe will be," says William Adams, executive vice president at Nuveen.</p>

<p>A spokesman for MFS Investment Management confirmed that its MFS Municipal Income Trust tapped the auction-rate market for funding but didn't have information about what impact the turmoil there might have. Representatives from other mutual-fund firms couldn't be reached for comment or declined to comment.</p>

<p>--Tom Lauricella, Robert Tomsho, Karen Richardson and Romy Varghese contributed to this article.</p>

[psguy]

<p>Lenders Predict
Harsher Climate
For Student Loans</p>

<p>Wall Street Journal
By ROBERT TOMSHO and JOHN HECHINGER
February 14, 2008; Page D1</p>

<p>Amid a widespread tightening of credit, some student lenders predict college loans will be harder and more expensive to come by for the fall.</p>

<p>Without a break in the credit crunch – such as stepped-up lending by major banks – the situation could become far worse, these lenders say, leading to many students being unable to fund their educations.</p>

<p>“There is no question in my mind that, unless something changes in the marketplace, there will be a shortfall of funds available to make student loans,” says Mark Valenti, president of the Connecticut Student Loan Foundation, a nonprofit lender based in Rock Hill, Conn. “I’ve been doing this since 1978, and I’ve never been more nervous.”</p>

<p>The subprime-mortgage crisis has driven investors away from the asset-backed securities that are a crucial source of capital for many student lenders, prompting smaller concerns like College Loan Corp. and Nelnet Inc. to stop making certain kinds of loans. And in recent days, the market for auction-rate securities, a type of financing vehicle tied to student loans, has seized up.</p>

<p>Concerns were heightened Tuesday when the Michigan Higher Education Student Loan Authority, a state agency, said it would suspend a major student-loan program because it was unable to raise capital in the markets. “I think a lot of agencies like ours are going to be running out of money,” says Tom Saxton, a deputy treasurer for the state of Michigan. “It just hasn’t hit yet.”</p>

<p>Indeed, college financial directors say they aren’t yet seeing major problems with loan availability. One reason is that most students secured their loans for the current academic year before it began and won’t begin borrowing again for the next one until late spring. “It’s still early right now,” says Doug McNutt, the University of Akron’s financial-aid director.</p>

<p>Some observers are convinced that if lenders dependent on asset-backed securities leave the market, big banks with other sources of capital will step in and fill the void, especially for loans guaranteed by the federal government, which accounted for more than three-quarters of the $77 billion that students borrowed for the 2006-07 academic year. “This is a very good business,” says Sandy Baum, a policy analyst for the College Board, “and such a low-risk thing.”</p>

<p>SLM Corp., the biggest student-loan company, is poised to secure a new $31 billion line of credit. Spokesman Tom Joyce says there’s “no chance” current credit market conditions will damage its ability to make loans this year.</p>

<p>Even so, the company commonly known as Sallie Mae, struggling after years of stellar growth, has said it will tighten credit requirements for borrowers and emphasize making higher-interest private loans over those that are federally backed. Sallie Mae currently charges interest rates ranging from 5.5% to 13% on private loans, depending on borrowers’ credit standing.</p>

<p>Mr. Joyce adds that because Congress last year slashed the subsidies made to lenders of federal loans, Sallie Mae and others will have to scale back benefits they had previously offered to students, such as breaks on fees and discounts for on-time payments. “Unfortunately, there will be higher prices in the marketplace,” he says.</p>

<p>The subsidy cuts, Sallie Mae’s problems and the subprime-lending fallout have created “a perfect storm for the student lending industry,” says Terry Hartle, vice president for government affairs at the American Council on Education, a college association in Washington. Mr. Hartle says he’s “concerned but not scared” about loan availability because the number of lenders has grown so much in recent years that “you could lose some without there being a shortage of capital.”</p>

<p>Mark Kantrowitz, who operates FinAid.org, a Web site focused on college finance, says students will have fewer lender choices this fall, while the interest rates for private loans are likely to rise by one percentage point, with related fees rising by an equal amount. For the moment, he doesn’t envision a loan shortage, “but there is also the possibility that there may be more turmoil,” he adds.</p>

<p>Industry observers say they don’t know of any other state authorities poised to immediately suspend loan programs, but uncertainty in the credit markets has many nonprofit lenders weighing their options.</p>

<p>Brazos Higher Education Service Corp., which has a $15 billion student-loan portfolio, was one of the lenders whose auctions failed this week. Company executives have been working on related problems since the fall, when the market for auction-rate securities first ran into trouble, says Ellis Tredway, executive vice president. Nothing is clear yet, he says, adding that with the summer borrowing boom coming up, lenders like Brazos, based in Waco, Texas, are anxious.</p>

<p>“It is not hard to look down the road and ask whether there may be a funding crisis for student loans this fall,” he says.</p>

<p>The Vermont Student Assistance Corp., a nonprofit public agency that originates and guarantees student loans, says it has funds to keep making loans for the next few months but needs to raise $200 million in June and July for the next school year. In the meantime, a failed auction this week means it will have to pay higher interest rates on $300 million in bonds it has already used for student loans.</p>

<p>Don Vickers, the agency’s president and chief executive, says if the credit crisis isn’t resolved by summer, agencies like his may not be able to afford to keep funding students’ college tuitions. “If it’s not resolved by then,” he says, “it’s going to be catastrophic.”</p>

<p>With students poised to begin receiving financial-aid award letters in the next month or so, FinAid’s Mr. Kantrowitz advises that students should, as always, carefully focus on how much of the offer is in grants that don’t have to be repaid and how much is in loans that do.</p>

<p>Students should pursue as much federal and state loan money as possible before considering private loans, which tend to have higher and variable interest rates. If other state authorities discontinue loan programs, private loans may be the only option, but students can lower the interest rates they are charged by having a parent cosign.</p>

<p>Martha Holler, a Sallie Mae official, recommends that students get in touch with financial-aid offices quickly to work out their loan plans. Students tend to get financial-aid award letters in the next month or so but many wait until the summer to decide on loans. Ms. Holler says that students needing private loans should act promptly since credit standards are tightening. “Apply now instead of waiting,” she says.</p>

<p>–Liz Rappaport contributed to this article.</p>

<p>Write to Robert Tomsho at <a href="mailto:rob.tomsho@wsj.com">rob.tomsho@wsj.com</a> and John Hechinger at <a href="mailto:john.hechinger@wsj.com">john.hechinger@wsj.com</a></p>

[kelsmom]

<p>Quote from Mike Boulus, executive director of the Presidents Council, a group representing Michigan’s public university presidents (in response to the news that the MI-Loan program is being suspended): “It’s just a crazy financial market right now. It caught us by surprise, but maybe it shouldn’t be a surprise.” Ya think?</p>