Elliott Management is the seller behind the huge offering of equity in the UK student loan securitisations, scheduled for auction on Wednesday this week, one of the largest secondary market offerings of securitisation equity in Europe.

The offering, first reported by 9fin last week, involves Morgan Stanley running a sale process for £1.236bn notional of the class X notes across the two deals in the Income Contingent Student Loans series — some of the most unusual assets available in capital markets.

These two deals securitised nearly £7bn of government-provided student loans in 2017 and 2018, which had highly unusual payment characteristics. Interest accrues at the lower of RPI, an inflation measure, and bank rate, while payments are made as a percentage of taxable income above a threshold (9% of income above £15k per annum in the first cohort).

Former students paid through the UK’s PAYE system have no choice about whether to pay down their debt — payments are collected automatically from their pay cheques like a tax.

This means the deal performance is correlated to UK nominal income growth, with elements of inflation and rates exposure as well — and there is no possibility of adjusting the servicing strategy, since this is administrated through the government’s Department for Education.

Former students who aren’t UK taxpayers can choose to pay down their loans — but those moving overseas cannot easily be pursued for the money. Post-2006 “Plan 1” loans will be written off after 25 years, while pre-2006 loans are written off at the age of 65.

The class X (effectively the equity, but without control rights) in the first deal was sold at 8.5 at new issue, with a 0.5% fixed coupon and profit participation arrangement.

The likely proceeds from the sale are far below the notional (likely to be below £200m) — but even this still puts it among the largest secondary equity sales on record. The sale process for the back book of mortgage lender Kensington was larger, and consisted essentially of a package of securitisation equity pieces (the financing stapled was around £250m) but was structured as a full portfolio sale (and traded to Pimco). Blackstone’s sale to Pimco of its equity stake in Project Ripon, a £10bn portfolio of Bradford & Bingley mortgages, is also probably close to the top of the table, but was also run as a private process rather than a secondary market sale.

The structure of the assets means mid-teens yields are potentially available (and can be enhanced by the back-leverage being offered by Morgan Stanley), but the cashflows are back-ended, with a weighted average life of 14-15 years.

Because the assets are already old, the outstanding assets in the pool are those borrowers whose income has not risen much since graduated. But at the same time, the securitisation structures themselves have delevered substantially, lowering the volatility of returns and presenting a more stable cashflow going forwards.

That makes them less attractive for a potential hedge fund buyer, since they can’t easily be relevered through the structure, and using Morgan Stanley’s off-the-shelf leverage facility makes it hard to find a competitive edge.

Several sources said that pension funds or life insurers might be more natural owners of the risk, given the long-term cashflows.

Elliott declined to comment. Morgan Stanley declined to comment.

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