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Student-Loans Feel the Effects of the Credit Crisis

In an article in today’s Wall Street Journal, Liz Rappaport and Karen Richardson report that securities tied to student loans might be succumbing to the credit crunch.

The Wall Street players that bundled and sold investments in subprime mortgages also packaged student loans into similar investments.  According to the WSJ, auctions of these securities conducted by Goldman Sachs Group Inc., J.P. Morgan Chase & Co. and Citigroup Inc. have failed to generate investors’ interest, leaving roughly $3 billion of securities without investor buyers.

In the past when demand was weak, the banks would step in and purchase the shortfall.  However, given the recent events relative to the subprime collapse, banks are already overburdened with other types of investment products they are trying to get off their books.  As a result, the auctions for the student loan products are failing.

These failures serve as an indicator that investors are growing reluctant to invest in these complex products tied to loans.  The fear is that valuing these products is difficult and that, like the subprime loans, these products will too experience declines in value.

When these auctions fail, the securities are left in the hands of investors who already hold them.  The result is that interest rates get reset.  The impact of this financial phenomenon is that students will likely see higher costs associated with their loans.

As this story illustrates, the fallout from the creation of complex securities by Wall Street continues to trickle down to Main Street.  It would appear that no credit program is beyond the reach of the current crisis.   

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