Daily Gains Letter

Student Debt on Course to Sink America’s Economy; Here’s How to Profit

By for Daily Gains Letter |

How to Protect Your Portfolio Coming Domino Effect Student DebtIn April, the unemployment rate dropped to 6.3%—its lowest level since 2008. While Wall Street and Capitol Hill might be giving each other high-fives, there is still plenty left to lament.

At 12.3%, the U.S. underemployment rate is still eye-wateringly high. (Source: “Alternative measures of labor underutilization,” Bureau of Labor Statistics web site, May 2, 2014.) Sure, it’s down from 13.9% in April 2013, but it’s still at an unacceptable level. And it’s not exactly an encouraging statistic for those entering, already in, or recently graduated from a post-secondary school—or those still struggling to pay off their student debt.

In this economic climate, graduates can either stay unemployed or take lower-paying jobs. Sadly, this could take a serious toll on the so-called economic recovery.

For starters, student debt is the fastest-growing category of debt. At the end of the first quarter of 2014, student debt had soared $125 billion year-over-year to $1.11 trillion. And right now, 11% of all loan debt is either in default or delinquent by 90-plus days. (Source: “Quarterly Report on Household Debt and Credit,” Federal Reserve Bank of New York web site, May 2014.)

Second, it’s going to get worse. With an average graduating debt of $33,000, the class of 2014 is the most indebted ever. They’re also finding it more and more difficult to pay off that debt. Between 2005 and 2012, the average student debt, adjusted for inflation, has climbed 35%. The median salary, on the other hand, has dropped 2.2%. This doesn’t bode well for the graduating class of 2015.

Granted, not all college degrees are created equally. Healthcare and education grads have the lowest unemployment rates at about three percent. Architecture, liberal arts, and social science majors have the highest levels of unemployment at seven to eight percent. (Source: “Analyzing the Labor Market for Recent College Graduates,” Federal Reserve Bank of New York web site, January 6, 2014.)

And third, high student debt, unacceptable underemployment rates, and low wages have serious implications on the broader U.S. economy. First-time homebuyers are an important part of the U.S. economy. In a healthy economy, they account for 40% of purchases—but today, first-time homebuyers make up just 29% of new- and existing-home sales. (Source: Hudson, K., “Housing Recovery’s Missing Link: First-Time Buyers,” Wall Street Journal, May 23, 2014.)

We all know correlation is not causation. Not all first-time homebuyers are college graduates—so we need to put that into context. With that said, college-educated first-time homebuyers are at a 10-year low, and half of Americans (49%) say student debt is a “huge obstacle” to buying a home. (Source: Gaffney, J., “CFPB director: Student loans are killing the drive to buy homes,” HousingWire, May 19, 2014.)

College graduates living in their parents’ basements are having trouble finding jobs and paying off their student debt. This also means they cannot step onto the property ladder, pay for renovations, or even buy paint, fixtures, furniture, or appliances.

The student loan debt debacle is at crisis levels. And it’s not just housing that is going to suffer. Discretionary income is hard to come by—that means underemployed student debt–laden graduates cannot buy cars and may even have to put off getting married and having kids.

It’s a domino effect. And it goes right back to the source—roughly 90% of outstanding student debt is backed by the federal government. Why? Because banks know student debt isn’t a moneymaker—and they’re getting out of the racket.

If students default on debt, the U.S. government is on the hook. This could force bond prices down, which pushes yields up. Investors betting against the government might want to consider an exchange-traded fund (ETF) that shorts bonds, like ProShares UltraShort 20+ Year Treasury (NYSEArca/TBT).

It’s a long-term bet, but with the average student debt designed to take 10 years to pay back, there’s lots of room for long-term growth.

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