Nelnet, a prominent issuer of student loan-backed bonds, is caught up in a political firestorm over its use of above-market subsidies from the federal government. The company, which has sold billions of asset-backeds in recent years and has emerged as the second largest issuer behind Sallie Mae in the roughly $50 billion a year student loan market, is being accused by Sen. Ted Kennedy (D-Mass.) of a variety of malfeasances, including what he calls "questionable accounting practices, potential manipulation of the financial market, possible insider trading and possible fraud."
The senior senator from Massachusetts is asking the Securities and Exchange Commission to open an inquiry into Nelnet as a result of these issues. A Nelnet official said the Lincoln, Neb.,-based company plans to respond to his allegations soon.
At the center of the controversy is Nelnet's use of so-called 9.5% floor loans, which permit it to receive that amount from the federal government for some loans it has extended to student borrowers at 3.57%, so long as the loans are financed through tax-exempt means. The reauthorization of the Higher Education Act of 1965, a process which is expected to be completed at some point after the election (BW, 3/15), has raised the issue of whether to extend this subsidy. The rate is grossly above market now because of prevailing low interest rates.
Cheryl Watson, chief communications officer and a veteran of the student loan market at Nelnet, said the company is being unfairly criticized because it has been open about its use of the 9.5% floor loans. "Nelnet has been singled out because we have been open and transparent in our utilization of this piece of the registration."
She stressed Nelnet is just one of many companies that have benefited from the subsidy, which one fixed-income professional only half-jokingly called "highway robbery." But Watson said Nelnet is merely playing by the rules. "We agree it's bad policy in the current interest rate environment and that's why we've been so public about it. By eliminating it today, we can help create savings used to create higher loan balances."
|Sen. Ted Kennedy|
To be sure, the Kennedy criticism may increase scrutiny on Nelnet but a rating agency analyst said its securitizations are well structured. He said even a retroactive elimination of the 9.5% floor loans, which entirely back three outstanding deals and make Nelnet the only issuer to sell bonds backed 100% by these loans, will not harm bondholders because the rating agency performed stringent stress tests. He noted the only risk to investors, albeit a remote one, is Nelnet's corporate health could be harmed by the controversy and servicing of its portfolio could weaken. Yet Watson noted the company's servicing recently received an "exceptional performance designation" from the Department of Education.
In fact, the company priced a $2 billion student loan deal before Kennedy's letter, including funding the senior class below LIBOR, and did not have to adjust levels or change the deal prior to closing last week. Watson said this is an indication investors are confident in the company's securitizations.