Last week I wrote a post about whether or not investing student loans was right for you. We looked at the ethical and legal barriers, and the challenges that you would face in using student loans as investment seed money.
Today I want to look into the other side of that thought; whether or not you can invest IN student loans.
Student loans are big business (it recently hit the $1 trillion mark – the largest amount of debt behind home mortgages). We all know that. With billions of dollars being disbursed each year in student loans it begs the question of whether or not there is money to be made for a savvy investor.
The answer is yes, but you might not expect where the opportunities lie.
Federal Student Loans
Can you invest in Federal student loans? Is there a way to get in on the lending power of the Federal Government? Unfortunately, no. Loans are disbursed through the Department of Education with the funds coming from the U.S. Treasury. I suppose in a way you are investing in student loans if you are a U.S. taxpayer, but I would never expect a return on that investment.
Federal student loans are also repaid through a number of contracted Federal loan servicers. PHEAA, ACS, EdManage, Great Lakes Education Loan Services, FedLoan and EdFinancial are just a few. All of the above are non-profit organizations however, Sallie Mae is another contracted Federal Loan Servicer that is publicly traded on the NASDAQ (NASDAQ:SLM). Investing in Sallie Mae would essentially be investing in one of the largest student loan companies in the United States. However, Sallie Mae now almost exclusively focuses on private student loans, where as Navient is the holder of their Federal student loans.
Peer to Peer Student Loan Lending
The steady rise in student loan debt and unhealthy lending practices has led some businesses to think more creatively when it comes to student loans. Startup companies are being formed which challenge the model of traditional student loan lending. Investing in student loans through traditional methods is not viable, but investing directly in students through peer to peer lending is a growing trend.
SoFi (social finance) is a startup company that creates opportunities for alumni to invest directly in students from their Alma Mater. SoFi is a “Different Kind of Loan”: “The $1 trillion US student loan market is broken. SoFi was founded to offer an innovative approach to addressing this problem using the power of social communities to transform the industry. SoFi connects students and alumni through a dedicated lending pool and an original social community approach where students, alumni and schools all benefit. Alumni earn a compelling double bottom line return, students receive a lower loan rate than their private or federal options, and both sides benefit from the connections formed.”
There are currently 78 schools that have partnered with SoFi to create investing communities for their current students or recent graduates. The benefit of this model is that investors can fund individual students, as well as form connections with those same students through a mentor/mentee relationship. I do not have any statistics on this, but I would imagine the default rate is MUCH lower if a borrower knows their “lender” on a personal basis.
As of March 2013, SoFi has funded over $90,000,000 in student loans!
Currently you must be an alumni of one of their 78 schools to participate in their lending process, but they are adding more schools all the time. If you are interested in investing through SoFi and you do not see your Alma Mater listed, you can always apply to have your school added. SoFi recently secured $60 Million in secured loan funds from Morgan Stanley, so they are on the prowl for more investors to take part in this innovative opportunity.
CommonBond, LLC is another startup company that has been developed with the same goal as SoFi: Provide students that are enrolled in an MBA program online or at a traditional university lower interest rate loans while connecting them with alumni investors. CommonBond does not specify that you must be an alumni of the same school where your student is attending. This will open up many more opportunities for investors who went to online colleges, local colleges, and universities, or who may have attended college overseas (or not at all).
The current yield on CommonBond student loans is 4.25%, and their overall default rate is 1% as compared with the 12.5% on the open student loan market.
The Bottom Line
Investing IN student loans is possible, and could even become common place in the future. Peer to peer lending and crowdsourced student loans are becoming more mainstream and will continue to become more popular as our national student loan debt crisis gets worse every year.
Would you invest in student loans, through peer-to-peer lending or other means?
DJ works in financial services at a large public university. He lives in the Southeast with his wife and young daughter.