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Sallie boss warns of student loan ‘train wreck’

Sallie Mae cannot write money-losing student loans indefinitely.
/ Source: The Associated Press

Sallie Mae says it cannot write money-losing student loans indefinitely.

Top executives are holding “daily deliberations” about just how long the nation’s largest student lender can afford to sacrifice its bottom line for the sake of college-bound Americans, Sallie Mae CEO Albert J. Lord said Thursday.

Lord told analysts on an earlier conference call: “We’ve been predicting something of a train wreck” in mid-2008 without prompt changes in a market hit by fallout from the subprime mortgage crisis and cuts last year in federal subsidies to student lenders.

Experts said that, unless the government intervenes or market conditions rapidly improve, Sallie Mae could have no choice but to stop writing new federally backed loans.

House lawmakers on Thursday approved a measure to boost the availability of credit for Sallie Mae and other student lenders, and analysts believe the Treasury department could act as soon as next week.

Sallie Mae lost $104 million in the first quarter as it grappled with higher borrowing costs, restructuring charges and other factors, though Lord said in a conference call with analysts that the company would not lower its full-year earnings target.

Shares of the Reston, Va.-based company climbed almost 6 percent Thursday, but remained 70 percent from last summer.

Even though the majority of student loans are highly rated and carry a federal guarantee, investor demand for securities backed by these assets has plummeted — a sign of just how nervous investors are about securities backed by mortgages, student loans and other debt.

Bank of America Corp. said Thursday it would stop private student loans, but continue offering government-backed loans. On Wednesday, Citigroup Inc. said its Student Loan Corp. subsidiary will temporarily stop issuing loans to students at schools where profits have not been satisfactory.

These market conditions come just months after a new law reduced government subsidies for federally guaranteed student loans, whose interest rates are capped at 6.8 percent.

That situation has forced Sallie Mae, formally SLM Corp., to lose money on every federally backed loan it makes, testing Wall Street’s patience as around 60 other companies have exited the market for those loans, either permanently or temporarily.

More than 75 percent of federal student loans are issued by those lenders, which primarily raise money by bundling loans into securities sold to institutional investors.

If the appetite for such securities doesn’t grow, Sallie Mae could be forced to halt new student loans, said Mark Kantrowitz, an expert on student loans who publishes the Web site “If they have no liquidity, then they can’t make new loans,” he said.

However, Sallie Mae would still be able to operate, Kantrowitz said, because the company would still receive fees for collecting loan payments. But the company would have to shrink considerably.

Sallie Mae has already been reducing jobs. The company disclosed in its first-quarter earnings report Wednesday night that it had eliminated 1,000 jobs — or 9 percent of the total staff — in recent months.

And Wall Street analysts are wondering how long the situation will last.

“How willing are you to continue making loans that are unprofitable with the uncertainty that’s facing us in Washington?” asked Bradley Ball, an analyst with Citigroup in the conference call Thursday morning.

Lord responded, “We feel a special obligation to make sure that this program operates without a serious hiccup,” but added that “we are literally in daily deliberations about how much further we can go.”

Despite the bad news, Lord said the company would not reduce its full-year earnings forecast of $1.70 to $1.80 per share, excluding one-time charges and the impact of derivatives, though he said earnings are likely to be on the low end of that range.

To bring stability back to the student loan market, Sallie Mae has been pushing for the Treasury Department to aid the stricken market by purchasing securities backed by student loans.

Company executives said such assistance is urgently needed, particularly as students rush to file loan applications early, given concern about the availability of funding. “We don’t have weeks or months to resolve the solution,” said Jack Remondi, Sallie Mae’s chief financial officer.

With large competitors to Sallie Mae scaling back, the government is likely to intervene within the next two weeks to prevent further distress as colleges around the country kick off the financial aid process for next fall, said Matt Snowling, an analyst with Friedman, Billngs, Ramsey & Co.

Asking lenders to operate at a loss for a sustained period “is a pipe dream,” he said.

The bipartisan bill approved by the House would let the Education Department temporary authority to buy loans from student lenders to ensure their access to capital and would let the government advance federal money to companies that would operate as “lenders of last resort” if they run out of cash.