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How do you hedge against student loans? I know people were able to hedge against the housing loans that busted so how do you do the same with student loans?

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    You've mentioned student loans, but in a context that doesn't feel like personal finance. Could you please elaborate on what you mean by "hedge against", and the problem you're trying to solve? – Chris W. Rea Nov 22 '11 at 18:07
  • How did people make money by hedging against the home loans? How did people make money by hedging against the student loans? – jspooner Nov 22 '11 at 18:45
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    student loans shouldn't be compared to secured loans, because you can't bankrupt out of a student loan, and there's no property to foreclose on when you default. Entirely different beast. – littleadv Nov 22 '11 at 19:31
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    he's trying to invest. if he told you why he was hedging, his advantage in the market disappears ;-) – Travis Webb Nov 23 '11 at 3:31
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Do you want to hedge them or short them? I assume you're talking about the "student loan bubble" that's being hyped by the news media. If the purported bubble pops and there's a massive student loan credit purge (de-leveraging) there's one industry that will be absolutely crushed: The for-profit educational industry. In the event of a protracted student loan purge, these would make fantastic shorts:

  • Kaplan (WPO)
  • DeVry (DV)
  • The Apollo Group (APOL)
  • Corinthian Colleges (COCO)
  • Strayer Education Group (STRA)

Be careful about shorting WPO, Warren Buffet has a large position there.

Back to the mortgage bubble: the hedge there was insurance purchased from AIG and other insurers. And we all know how that ended up. But there were a minority of people not hedging, but shorting the housing market by buying insurance on mortgage-backed securities (MBS) they didn't even own.

-tjw

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I doubt there's a market for student load credit default swaps, given that the US government already backstops most of them through FFEL/Stafford/Plus. And US bankruptcy code makes it nearly impossible to discharge student debt. So there's not a lot of need for it.

You could try buying options on companies that specialize in student loans, like Sallie mae, but the high general volatility of stocks will make your put options more expensive. Or you could try buying default swaps on SLM's debt, but you'd better read the CUISP prospectus on the debt first, and then the swap contract. If you were the kind of person who knew how to read them and evaluate the risk I doubt you'd be asking the question however.

Ultimately, hedging involves offsetting risks. What is your risk if the loan market falls apart? Risk is defined as probability times impact of outcome. What are the outcomes? Maybe you work for a uni and could lose your job if enrollment falls. Or maybe it's a good thing as suddenly nobody can afford the degree you earned. Or maybe employers stop looking at university credentials since nobody has them, and now you're among those cursed with an expensive degree holding you down in a field opening up to the public. So think for a while about which parts will help and which will hurt.

Once you've established that, consider the probability that this whole "student loan crisis" thing happens at all. We know that the US government is already funding education. We know that the 10 year US borrowing is very cheap at the moment, and probably has room to cut rates they charge by at least a percent maybe more. Not too long ago rates were floating rate using the 91 day T-bill.

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