Hedge Funds Think Today’s Students Will Have Tough Time Repaying Student Loans

What Hedge Funds Can Teach College Students

Ask hedge fund manager Daniel Ades about the future for recent college
graduates and he likes to draw a picture, a very ugly picture. He
sketches out a bell curve mapping the historical default rate on
student loans – then he draws another curve much higher to show the
likely default rate for the Class of 2011.

Mr. Ades has become an expert in the $242 billion market for bonds
backed by bundles of student loans, delivering consistently strong
returns by trading hundreds of millions of dollars worth of the debt
over the past four years. “We know all these deals inside out and we
know their default rates,” he said.

But when it comes to the loans banks made to students who graduated in
2010 and 2011, the 31-year-old investor is steering well clear,
“because we can’t quantify the risk,” he said.

Investors like Mr. Ades have a unique view on the future for America’s
job-seekers. Their investments depend on accurately predicting young
people’s ability to pay their loans, which means they obsess about
everything from employment rates in different professions to the
long-term earning potential of young graduates.

Historically, investors have assumed 25% to 30% of student loans
bundled into their bonds will default but they are baking in 30% to
40% default rates for loans owed by the current crop of graduates,
said Chris Haid, a director in asset backed trading at Barclays
Capital. Even those assumptions are a best guess and defaults could
ultimately go higher if unemployment rises, Mr. Haid said.

This analysis translates into some surprising insights for students
and policy makers. For example, in the current economy, it may make
more sense to enter a technical college than to go to law school.