Student Loan Proposals Good for Sallie Mae

 | Apr 10, 2013 | 6:00 PM EDT
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I see positive news for private student loan companies Sallie Mae (SLM) and Nelnet (NNI) in the Obama administration's just-released fiscal year 2014 federal budget. And it seems to confirm why investors have bid up shares of both Sallie Mae and Nelnet by 55% since their lows of last spring.

Specifically, the White House has proposed to partially offset the $29 billion (ten-year) costs of four new initiatives for middle class students by assuming a back-loaded $15 billion in savings from shifting to a new and industry-friendly adjustable rate formula for determining federal student loan rates after July 1.

The assumptions from the budget (under the "Summary Tables"), are good news in that they show the administration embracing a T-note-plus-3 percentage-points formula recently advanced by the New America Foundation and House Republicans.

That revised benchmark was offered as a long-term fix for the doubling of federal direct student loan interest rates otherwise scheduled to take effect July 1. Meanwhile, a similar threat (of reversion from the current 3.4% rate to 6.8%) created headline risk for industry leaders Sallie Mae and Nelnet last spring, before Congress extended the status quo while offsetting the costs elsewhere.

Any movement toward consensus on a preemptive, neutral and lasting fix to this year's reprise of that challenge would be quite positive -- not only to avoid the industry's being slammed by advocacy groups supporting students but also because the costs of proposals to freeze rates at their current low level (like the just-released U.S. PIRG "Young Invincibles" offering) invariably put lenders at risk to cutbacks in what few federal student loan subsidies still exist.

An early false read from some of my competitors this morning -- to the effect that the administration might be proposing another program to refinance outstanding Federal Family Education Loan loans into direct loans -- is exemplary of exactly the kinds of conjecture that student loan industry stakeholders would just as soon avoid.

Incidentally, the four new initiatives advanced by the administration involve:

  1. $17 billion for mandatory appropriations to ensure future Pell Grant funding;
  2. $6 billion for expansion of "Pay-as-you-go/Income-based repayment;
  3. $700 million for an overhaul of TEACH grants; and
  4. $4 billion for a new "Community College to Career Fund."  

While the latter might join the proposed Perkins loan changes as a potential future worry for the for-profit college industry -- a separate group whose stakeholders have required far more handholding during the first Obama term -- I'd offer that any such risks would be more than offset should the also budgeted higher Pell grant funding be sustained .

Bottom Line: Sallie Mae is one of my favorite companies and stories, with high political-risk-driven beta in the past but a proven shareholder-friendly management and a history of profitably exploiting its dominance in the student loan space. This even though the federal government originates 100% of all new subsidized Stafford loans, pursuant to the Obama administration's repeal of new originations under the FFELP back in 2010.

Think three-legged stool -- from the runoff income associated with the company's portfolio of outstanding loans, to its dominant position in offering non-federal private student loans, to new fee-based income from federal direct, FFELP, and private loan servicing and debt collection.

As always, as a political analyst, I don't publish an earnings model nor recommend stocks. But I continue to be sanguine about the private student loan industry's manageable risk levels in Washington, and its quite solid future role in providing credit for college students -- even as a perceived student loan debt bubble and the administration's recent focus on educational outcomes has raised unprecedented questions about the value and financing of a college degree.  

Worries or misunderstandings about this exposure will almost surely create investment opportunities going forward. Meanwhile, I also have seen reasons for optimism that the perceived relative fate of the prop schools might also be nearing or at a bottom -- but I'll leave the question of whether Apollo Group (APOL), DeVry (DV), Career Education Corp. (CECO), Corinthian Colleges (COCO), ITT Educational Services (ESI), Strayer Education (STRA) and Bridgepoint Education (BPI) are finally once again "investible" to another time.

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