A recent Biden administration executive order has extended the suspension of payments and interest on Federal Direct student loans through at least Sept. 30, 2021. While this executive order does not apply to Federal Family Education Loan Program (FFELP) loans, many FFELP servicers voluntarily provided similar COVID-19 forbearance relief to FFELP obligors over the past year. We believe that servicers will likely continue to extend this relief, though at a reduced level.
The additional FFELP forbearance will continue to put pressure on FFELP loan-backed ABS bonds with near-term maturities--some of which already have slower-than-expected borrower payments due to income-driven repayment (IDR) plans and previous pandemic forbearance relief options. In most cases, increased COVID-19-related forbearance has removed a significant amount of FFELP loans from delinquent status, delaying both loan defaults and subsequent Department of Education (ED) guarantee payments to FFELP ABS trusts. While we believe the trusts will be reimbursed, the delayed guarantee payments represent additional stress for nearer-term ABS maturities already experiencing liquidity issues.
In response to these liquidity issues, S&P Global Ratings lowered its ratings on many FFELP ABS classes maturing in the next three years to speculative grade ('BB+' and lower). Extending forbearance pandemic relief may result in additional downgrades within the portfolio. However, the scope of the affected classes across all of FFELP ABS has been minimal because only a small portion of FFELP ABS bonds are scheduled to mature within in the next few years. Of the 621 FFELP ABS classes rated by S&P Global Ratings, only 6% (39 classes) have legal final maturities in the next five years, while 83% (513 classes) have maturities beyond 2030. In general, trusts with longer maturity bonds have more time to receive delayed loan payments and the ED guarantee payments following a default.
Chart 1
Potential impact of loan forgiveness
With the new administration, the concept of government-granted loan forgiveness has moved to the forefront as a discussion point and somewhat closer to reality. The timing (months or years) and execution (legislative or executive order) of such relief remain unclear. But if loan forgiveness is extended to include FFELP borrowers, we believe it could favorably impact FFELP ABS.
FFELP loans account for roughly 5.4 million (13%) of the 42.9 million borrowers in the $1.6 trillion federal student loan portfolio and have an average loan balance of $25,000 per borrower (see chart 2).
Chart 2
While it's still too early to predict, federal student loan forgiveness proposals seem to be coalescing at $10,000 per borrower, or approximately 40% of the current average FFELP loan balance. This level of forgiveness has the potential to generate significant, one-time prepayments in FFELP ABS trusts that would reduce excess spread and, more importantly, improve liquidity for ABS maturing in the near term.
Our ratings on FFELP ABS are supported by subordination, overcollateralization, and excess spread. While an increase in voluntary prepayments due to loan forgiveness would reduce excess spread for these ABS trusts, we believe the ratings would remain stable. Loan forgiveness at any level should improve liquidity in FFELP transactions and, to some extent, offset the increased risk to FFELP ABS from the growing use of IDR and elevated forbearance levels.
We will continue to monitor the impact of COVID-19-related forbearance and income-based repayment plans, as well as the effect of legislation related to federal student loan forgiveness.
As vaccine rollouts in several countries continue, S&P Global Ratings believes there remains a high degree of uncertainty about the evolution of the coronavirus pandemic and its economic effects. Widespread immunization, which certain countries might achieve by midyear, will help pave the way for a return to more normal levels of social and economic activity. We use this assumption about vaccine timing in assessing the economic and credit implications associated with the pandemic (see our research here: www.spglobal.com/ratings). As the situation evolves, we will update our assumptions and estimates accordingly.
This report does not constitute a rating action.
| Primary Credit Analyst: | Mark W O'Neil, New York + (212) 438-2617; mark.o'neil@spglobal.com |
| Secondary Contacts: | Shane N Franciscovich, New York + 1 (212) 438 2033; shane.franciscovich@spglobal.com |
| John Anglim, New York + 1 (212) 438 2385; john.anglim@spglobal.com | |
| Brenden J Kugle, Centennial + 1 (303) 721 4619; brenden.kugle@spglobal.com |
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