Monday, February 11, 2008

Auction-Bond Failures Spread to Student Loan Debt (Update2)

By Michael Quint and Martin Z. Braun

Feb. 11 (Bloomberg) -- College Loan Corp., a San Diego- based lender, said some bonds it issued with rates determined through periodic auctions failed to attract enough bids.

The company wouldn't say which specific issues failed or identify the banks that managed the auctions.

Demand for bonds in the $360 billion auction-rate securities market is waning on investor concern that dealers who collect fees for managing the bidding on the bonds won't commit their own capital to prevent failures. Reduced appetite for auction-rate debt in the municipal market also reflects expectations that the credit strength of insurers backing the securities may deteriorate.

``It is unfortunate that certain auctions did not clear,'' said John Falb, chief financial officer at College Loan in an e- mailed statement Feb. 8. Falb said investors couldn't have been concerned about the quality of the College Loan Corp. bonds, which are backed by government-guaranteed student loans.

Auction bonds issued by Sallie Mae, the largest student loan lender, also failed to attract enough bidders last week, according to a report today by Keefe, Bruyette & Woods, a New York-based securities firm. The report said weak demand for auction securities may not extend to other debt backed by the same pool of student loans.

Thomas Joyce, a spokesman for Reston, Virginia-based Sallie Mae, couldn't be reached for comment on the status of the company's auction securities.

Failure Consequences

Auction bonds have interest rates that are determined by bidding that typically occurs every seven, 28 or 35 days. When there aren't enough buyers, as has occurred in recent months on some securities, the auction fails and bondholders who wanted to sell are left holding the securities. Rates at failed auctions are set at a level spelled out in bond documents.

Fitch Ratings in a Dec. 19 report said some issuers of student-loan backed securities ``have been faced with the possibility of failed auctions.'' Ratings on the debt may be cut as rising rates at auctions shrink the gap between what the student loan companies pay on their bonds and what they collect on the student loans they hold, Fitch said.

``It seems that the dealers are no longer willing to bid in large amounts for these issues,'' said Lee Epstein, chief executive at Money Market One, San Francisco-based securities firm specializing in short-term securities.

Dealer Support

Bidding by dealers is essential to the smooth functioning of auction securities and banks are now wary of loading their balance sheets with the bonds, Epstein said. Failures are concentrated in securities that were privately sold, he added.

Officials at Sallie Mae, the largest student loan lender, couldn't be reached for comment on the status of their auction securities.

In the municipal market, at least two auctions run by Lehman Brothers Holdings Inc. failed on Jan. 22, the first day the bond investors could react to a ratings downgrade of Ambac Financial Group Inc.'s main insurance units.

Debt issued by electric utility Nevada Power reset at 6.757 percent, the maximum proscribed under the terms of the bonds, while securities from Georgetown University reset at 6.604 percent. Ambac insures Nevada Power's debt, while MBIA Inc.'s MBIA Insurance Corp. guarantees Georgetown's debt.

Failed auctions have hurt companies that bought those variable-rate securities as short-term investments with excess cash, and are unable to sell their holdings. Bristol-Myers Squibb announced Jan. 31 a $275 million write-off of its holdings, which totaled $811 million at the end of 2007.

About a third of 449 companies polled in a survey last May for the Association for Finance Professionals said they had investments in auction-rate bonds.

No comments: