Research Primer: Student Loan Auction Rate Securities
NERA Economic Consulting has issued a free helpful primer on the market for student loan auction rate securities.
In February 2008, auction-rate securities (ARS) experienced widespread auction failures, and since that time, claimants have filed hundreds of related arbitration claims and lawsuits. Many investors who held ARS exited their positions when issuers restructured or refinanced their securities, and many exited or will exit positions when broker-dealers repurchase ARS under regulatory settlements.
Student loan auction-rate securities (SLARS), an important auction-rate category, are a type of student loan asset-backed security (SLABS) which have their interest rates reset at frequent and periodic auctions. Unlike ARS issued by municipalities or by closed-end mutual funds, SLARS have seen little refinancing or restructuring activity since February 2008. Furthermore, auction-rate regulatory settlements did not cover all investors. While it is too early to know how the pending matters will ultimately be resolved, many of the ongoing matters involve student loan asset-backed securities.
These matters involve different types of parties and a range of allegations. Broker-dealers who underwrote and managed auctions are defendants in many suits where purchasers of auction-rate securities allege misrepresentations and omissions about the nature of the securities.
Both corporations and mutual funds that held auction-rate securities have been sued by their own investors, who allege that they did not properly disclose their auction rate exposure. One suit alleged failure of a SLABS issuer to disclose dependence on the market for auction-rate securities. Plaintiffs seek remedies including rescission, compensatory damages, and punitive damages.
The market for student loan asset-backed securities has been influenced by changes in short-term interest rates, credit market conditions, and higher education policy, among other factors. While some auction-rate securities have been refinanced by issuers, this has generally not been the case for ARS backed by student loans. In addition to pending litigation, claimants continue to file new lawsuits and arbitration claims involving auction-rate securities and asset-backed securities, including those backed by student loans.
Recent student loan legislation has provided primary and secondary market liquidity for student loans and will likely do so going forward.
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