Hedge Fund Investors Offer Student Loan Facts and Advice to College Students

Posted by Shannon Rasberry on Nov 15, 2011 in Student Loan Debt | 0 comments

Trade schools may be a better choice than law schools for loan-borrowing college students, according to a hedge fund manager who recently explained the little-seen trading side of student loans and offered some advice to college students based on trends in the market.

Daniel Ades, who manages the Kawa Capital Management hedge fund, said in an interview that, from his perspective as an investor, students who borrow student loans to pay for college should consider attending a technical school because of the schools’ low cost relative to the higher wages they deliver. Technical colleges may be less prestigious, but “we’re in a skills based economy and what we need is more computer programmers, more [nurses],” Ades said. “It’s less glamorous but it’s what we need.”

Ades became known as an expert in the $ 242 billion market for bonds backed by bundles of student loans by delivering consistently strong returns while trading hundreds of millions of dollars worth of student loan debt over the past four years. “We know all these deals inside out and we know their default rates,” Ades said.

The success of Kawa Capital Management depends on Ades’ ability to accurately predict young borrowers’ ability to repay their student loans — he and his colleagues obsess about everything from employment rates by profession to the long-term earning potential of graduates — and his prediction is that new graduates will have exceedingly high default rates. In fact, the default rate of loans made to borrowers who graduated in 2010 and 2011 is expected to be so high that Ades’ hedge fund has decided to steer clear of them. “[W]e can’t quantify the risk,” he said (“What Hedge Funds Can Teach College Students,” The Wall Street Journal, Nov. 12, 2011).

Investors in the hedge fund business — including Ades; Rubin Bahar, of Eagle Asset Management; Anup Agarwal, of Stark Investments; and Chris Haid, of Barclays Capital — offered the following facts about student loans that may be helpful to borrowers who don’t often get a chance to take a look at the behind-the-scenes world of student loan trading:

• Historically, investors have assumed a default rate of 25 percent to 30 percent of loans bundled into their bonds. However, that number has risen to from 30 percent to 40 percent for current graduates and could go even higher.
• The most important predictors of default are whether or not a student graduates and if they graduate on time. The unemployment rate for Americans between the ages of 20 and 24 with four-year degrees in 8 percent, compared to 21 percent for those without. Investors prefer to avoid student loans in the bond portfolios taken out by people who are perpetual academics, chronically change majors, or stop and start school.
• Technical colleges may be less prestigious that four-year schools but are more attractive to investors because of their low cost relative to the wages that graduates can expect to earn. Annual tuition at public two-year U.S. colleges will cost an average of $ 2,963 in 2011, compared with $ 28,500 at a four-year private school, according to The College Board.
• Law schools can be a sucker’s bet for investors in periods of high unemployment, in part because law schools outnumber other professional schools. Students who enroll in law schools to wait out economic soft patches create an excess supply of lawyers, many of whom are underemployed or unemployed after graduation and are more likely to default on their expensive student loans than graduates of other professional programs. According to the American Bar Association, law students borrow an average of $ 68,827 to attend public universities and $ 106,249 to attend private universities.

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