SLM Corporation’s SLM long-term senior unsecured rating has witnessed an upgrade from Ba2 to Ba1 by the Moody's Investors Service, the rating arm of Moody's Corporation MCO. The outlook of both the company and its bank subsidiary — Sallie Mae Bank — has remained stable.
Notably, the subsidiary’s standalone baseline credit assessment (BCA) has improved from ba1 to baa3 and long-term deposit rating to Baa1 from Baa2. Further, Sallie Mae Bank’s short-term deposit rating was affirmed at Prime-2.
Reasons Behind Ratings Upgrade
The ratings agency is optimistic of improvement in the bank's credit fundamentals on the back of efforts taken to build franchise. In addition, the upgrades reflect the strengthening of the company's comparatively weak deposit franchise and the slowing of its balance sheet growth.
Also, per Moody’s, it is commendable that despite being small in size when compared with its competitors like Wells Fargo & Company WFC and Discover Financial Services DFS, SLM has been able to maintain its position as largest originator of private education loans.
Moody's believes that SLM's strong profitability provides additional support to sustain solid capital levels, as measured by tangible common equity to risk-weighted assets of around 10.5% as of Sep 30, 2019. Though its loan portfolio consists of unsecured consumer loans that have higher average charge-offs compared with peers, SLM has been able to offset this downside with its prudent underwriting.
However, the ratings agency showed concerns over SLM’s dependence on U.S. private student loan market, making it exposed to changes in regulations and other legislative risks. While Moody's is of opinion that sweeping proposals, such as those aimed at making higher education more affordable have a low likelihood of being enacted, if implemented, it can affect the student loan market, depending on the details of actual legislation.
Also, SLM's funding structure is weak relative to its rated peers, as it is heavily reliant on brokered deposits and savings accounts. These deposits enable SLM to obtain funding with longer maturities that are better matched to the seven-year average life of the company's loan portfolio, but they are often less sticky and therefore have greater refinancing risk and higher cost than branch-based deposits or transaction accounts.
Further, Moody's is of the opinion that student loan providers face high social risks, which includes interaction with their customers, data security and customer privacy. Fines and reputational damage due to any type of misconduct is a further social risk.
What Can Trigger Changes in Ratings
Continuous improvement in profitability, maintenance of disciplined underwriting along with reduced reliance on confidence-sensitive wholesale funding and brokered deposits while maintaining solid capital levels will help the company gain a further upgrade. Continued prudent diversification and measured growth of non-private student loan asset classes could also be positive for the BCA.
SLM's BCA could be downgraded if the ratings agency finds a material deterioration in financial performance and asset quality. Legislative or regulatory actions in the student lending sector, which would have an adverse impact on the firm and that management were unable to offset, will also result in negative ratings pressure.
Shares of SLM have gained 3.3% so far this year compared with 31.4% growth of the industry it belongs to.
Currently, the stock carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
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