Home of the good life — for NelNet, Inc. (photo: Thomas Beck Photo via Flickr)
It isn’t enough that Nebraska Senator Ben Nelson wants American taxpayers to pay Nebraska’s Medicaid bill for the foreseeable future. He also wants America’s college students to pay to keep a few jobs and a lot of money for NelNet, Inc., which is headquartered in Omaha. Nelson wants to require the Treasury to guarantee student loans made by private lenders, when it would be cheaper for both taxpayers and college students for the government to make those loans directly. The amazing thing is that NelNet wouldn’t be greatly harmed by getting rid of the guarantee program. Let’s see how NelNet screws over our kids.
NelNet is publicly traded, so we can look at its most recent 10-Q, 9/30/09. The company explains its business very clearly. People interested in the use of swaps for hedging will find the discussion on pages 14-19 very informative. On page 37, the company states that it “generates a significant portion of its earnings from the spread, referred to as its student loan spread, between the yield the Company receives on its student loan portfolio and the cost of funding these loans.” The company has about $26.8 billion in debt. It paid interest on bonds and notes in the first nine months of 2009 of $329 million, which indicates full year interest rate of 1.64%. CitiBank offers Stafford loans at 6.8% (unsubsidized, meaning the government isn ‘t paying the interest while the student is enrolled in school). If NelNet is making comparable loans, it has a current spread of 5.16%.
What happens to that difference? NelNet says that its primary source of income is securitization of loans. As an example, in October, 2009, the company did a $434 million securitization. Here’s how that works. The company forms a new entity, maybe a trust or a limited liability company. It sells a bunch of student loans to the company. The new company gets the money by selling notes to investors. How does it decide what the purchase price of the loans will be?
Here’s an example. Suppose NelNet has a $10,000 loan with a face interest rate of 6.8% and a 10 year term. Payments will be $115.08, consisting of both principal and interest. This loan is secured by a guarantee from the government, so it is almost as safe as a Treasury bill. Seven year Treasury notes pay about 3.12%, so maybe a fair market rate for the notes of the special purpose entity is 4.8%. Then we need to add something to pay for servicing of the loans, say .5%, a total of 5.3%. This loan pays more, so it is worth more. Suppose we sell the loan for $10,701.14. The monthly payments of $115.08 work out to a 5.3% return. That means that when NelNet sells the notes to investors, it pockets $701.14, on top of the origination fees and any other fees it can get out of the borrower. It doesn’t necessarily get the cash, it may keep some of the securities, or it may do something else.
It doesn’t matter how NelNet gets the money. The fact is that this is money is being paid by a bunch of college students, or their families. This is a burden that wouldn’t exist if the government made the loans directly.
NelNet saw the handwriting on the wall: it didn’t think its parasitical behavior could last forever. It has diversified. It is one of the four firms which provides servicing to the Treasury on loans the government makes directly to students. It has other businesses. It won’t make this free money from college kids, and it won’t need the people who plan its derivatives and its securitizations, and it may not be able to pay its CEO $500,000 plus, but it will survive nicely.
It will do much better if Senator Nelson brings it bacon, carved out of the next generation.
