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Item 7A. Quantitative and Qualitative Disclosures About Market Risk

2023-02-28 compared with 2022-02-28 · 48 added, 31 removed, 100 unchanged (44% of the section changed)

20 unchanged sentences

All FFELP loans first originated on or after April 1, 2006 effectively earn at the SAP rate, since lenders are required to rebate fixed rate floor income and variable rate floor income for those loans to the Department.

As a result of the significant drop in interest rates during the first half of 2020, the Company earned $4.8 million of variable-rate floor income on approximately $1.4 billion of FFELP loans during the six months ended June 30, 2020.

Since the borrower rate reset on July 1, 2020, the Company no longer earns such variable-rate floor income on these loans, reflecting the lower interest rate environment.

No variable-rate floor income was earned in 2021.

No variable-rate floor income was earned by the Company in 2022 or 2021.

A summary of fixed rate floor income earned by the AGM operating segment follows.

3 unchanged sentences

Fixed rate floor income, net $ 90,529 122,877

(a) Derivative settlements consist of settlements paid related to the Company's derivatives used to hedge student loans earning fixed rate floor income.

Gross fixed rate floor income increased in 2021 as compared to 2020 due to lower interest rates in 2021 as compared to 2020.

(a) Derivative settlements consist of settlements received (paid) related to the Company's derivatives used to hedge student loans earning fixed rate floor income.

Gross fixed rate floor income decreased in 2022 compared with 2021 due to higher interest rates in 2022 compared with 2021.

Absent the use of derivative instruments, a rise in interest rates will reduce the amount of floor income received and has an impact on earnings due to interest margin compression caused by increasing financing costs, until such time as the federally insured loans earn interest at a variable rate in accordance with their SAP formulas.

In higher interest rate environments, where

the interest rate rises above the borrower rate and fixed rate loans effectively become variable rate loans, the impact of the rate fluctuations is reduced.

In higher interest rate environments, where the interest rate rises above the borrower rate and fixed rate loans effectively become variable rate loans, the impact of the rate fluctuations is reduced.

The Company enters into derivative instruments to hedge student loans earning fixed rate floor income.

The increase in net derivative settlements paid on these derivatives in 2021 as compared to 2020 was due to a decrease in interest rates and an increase in weighted average of notional amount of derivatives outstanding in 2021 as compared to 2020.

The increase in net derivative settlements received by the Company during 2022 compared with net derivative settlements paid in 2021, was due to an increase in interest rates, partially offset by a decrease in the notional amount of derivatives outstanding.

During 2022, the Company terminated $2.4 billion in notional amount of derivatives for net proceeds of $91.8 million.

The following graph depicts fixed rate floor income for a borrower with a fixed rate of 6.75% and a SAP rate of 2.64%:

6 unchanged sentences

> 9.0% 9.05% 6.41% 139,081

5.0 - 5.49% 5.22% 2.58% 385,797

5.5 - 5.99% 5.67% 3.03% 255,468

6.0 - 6.49% 6.19% 3.55% 292,207

6.5 - 6.99% 6.70% 4.06% 287,525

7.0 - 7.49% 7.17% 4.53% 107,708

7.5 - 7.99% 7.71% 5.07% 196,416

8.0 - 8.99% 8.18% 5.54% 463,091

> 9.0% 9.05% 6.41% 178,219

(a) The estimated variable conversion rate is the estimated short-term interest rate at which loans would convert to a variable rate.

5 unchanged sentences

2031 100,000 1.53

2025 500,000 0.35

2026 500,000 1.02

2031 100,000 1.53

2032 (b) 200,000 2.92

$ 2,800,000 0.70 %

(a) For all interest rate derivatives, the Company receives discrete three-month LIBOR.

(a) For the interest rate derivatives maturing in 2032, the Company receives payments based on Secured Overnight Financing Rate (SOFR) that resets quarterly.

For all other interest rate derivatives, the Company receives payments based on three-month LIBOR that resets quarterly.

(b) These derivatives have forward effective start dates in November 2024.

AGM is also exposed to interest rate risk in the form of basis risk and repricing risk because the interest rate characteristics of AGM’s assets do not match the interest rate characteristics of the funding for those assets.

6 unchanged sentences

3 month LIBOR (a) Quarterly — 3,754,888

Asset-backed commercial paper (b) Varies — 978,956

Fixed rate — — 594,051

Auction-rate (b) Varies — 248,550

Asset-backed commercial paper (c) Varies — 5,048

Auction-rate (c) Varies — 178,960

Other (d) — 1,661,866 1,608,182

8 unchanged sentences

(i) The weighted average rate paid by the Company on the 1:3 Basis Swaps as of December 31, 2022 was one-month LIBOR plus 9.7 basis points.

(b) As of December 31, 2021, the Company was sponsor for $248.6 million of outstanding asset-backed securities that were set and provide for interest rates to be periodically reset via a "dutch auction" (“Auction Rate Securities”).

(b) The interest rate on the Company's FFELP warehouse facility is indexed to asset-backed commercial paper rates.

(c) As of December 31, 2022, the Company was sponsor for $179.0 million of outstanding asset-backed securities that were set and provide for interest rates to be periodically reset via a "dutch auction" (the “Auction Rate Securities”).

Since the auction feature has essentially been inoperable for substantially all auction rate securities since 2008, the Auction Rate Securities generally pay interest to the holder at a maximum rate as defined by the indenture.

While these rates will vary, they will generally be based on a spread to LIBOR or Treasury Securities, or the Net Loan Rate as defined in the financing documents.

(d) Assets include accrued interest receivable and restricted cash.

Funding represents overcollateralization (equity) and other liabilities included in FFELP asset-backed securitizations and warehouse facilities.

Funding represents overcollateralization (equity) and other liabilities included in FFELP asset-backed securitizations and warehouse facility.

LIBOR is in the process of being discontinued as a benchmark rate, and the market transition away from the current LIBOR framework could result in significant changes to the interest rate characteristics of the Company's LIBOR-indexed assets and funding for those assets.

24 unchanged sentences

Increase (decrease) in basic and diluted earnings per share $ (0.25) $ 0.50 $ (0.00 ) $ (0.00 )

Financial Statement Impact – Derivatives

For a table summarizing the effect of derivative instruments in the consolidated statements of income, including the components of "derivative market value adjustments and derivative settlements, net" included in the consolidated statements of income, see note 6 of the notes to consolidated financial statements included in this report.

Based on AGM’s interest rate swaps outstanding as of December 31, 2022 used to hedge loans earning fixed rate floor income, if the forward interest rate curve was 50 basis points lower for the remaining duration of these derivatives, we would have been required to pay $29.3 million in additional variation margin.

In addition, if the forward basis curve between one-month and three-month LIBOR experienced a ten-basis point reduction in spread for the remaining duration of AGM’s 1:3 Basis Swaps (in which the Company pays one month LIBOR and receives three month LIBOR), we would have been required to pay $7.7 million in additional variation margin.

Interest Rate Risk - Nelnet Bank

To manage Nelnet Bank's risk from fluctuations in market interest rates, the Company actively monitors interest rates and other interest sensitive components to minimize the impact that changes in interest rates have on the fair value of assets, net income, and cash flow.

To achieve this objective, the Company manages and mitigates its exposure to fluctuations in market interest rates through several techniques, including managing the maturity, repricing, and mix of fixed and variable rate assets and liabilities.

The following table presents Nelnet Bank's loan assets and deposits by rate characteristics:

To achieve this objective, the Company manages and mitigates Nelnet Bank’s exposure to fluctuations in market interest rates through several techniques, including managing the maturity, repricing, and mix of fixed and variable rate assets and liabilities.

The following table presents Nelnet Bank's loan assets, asset-backed security investments, and deposits by rate characteristics:

As of December 31, 2022 As of December 31, 2021

1 unchanged sentence

Fixed-rate loan assets $ 341,776 $ 191,410

Fixed-rate investments 123,809 3,937

Total fixed-rate assets 465,585 52.2 % 195,347 38.8 %

Variable-rate loan assets 78,019 66,491

Total $ 257,901 100.0 % $ 17,543 100.0 %

Variable-rate investments 347,559 241,038

Total variable rate assets 425,578 47.8 307,529 61.2

Total assets $ 891,163 100.0 % $ 502,876 100.0 %

Fixed-rate deposits $ 336,040 42.6 % $ 344,315 80.9 %

Variable-rate deposits 453,604 57.4 81,085 19.1

Total $ 425,400 100.0 % $ 113,046 100.0 %

Financial Statement Impact – Derivatives

Total deposits $ 789,644 100.0 % $ 425,400 100.0 %

Interest Rate and Market Risk - Investments

The following table presents the rates earned on the Company’s available-for-sale debt securities (investments) and debt facilities used to fund a portion of such investments.

The table below excludes the available-for-sale debt securities (investments) held by Nelnet Bank.

Year ended December 31,

Average balance Interest income/ expense Average yields/ rates Average balance Interest income/ expense Average yields/ rates

Asset-backed securities available-for-sale (a)(b) $ 1,303,731 35,516 2.72 % $ 587,736 7,409 1.26 %

Debt funding asset-backed securities available-for-sale:

Participation agreement - variable rate $ 349,486 9,617 2.75 % $ 152,196 1,176 0.77 %

Repurchases agreements - variable rate 481,782 12,355 2.56 223,792 1,558 0.70

$ 831,268 21,972 2.64 $ 375,988 2,734 0.73

(a) The Company has repurchased certain of its own FFELP asset-backed securities (bonds and notes payable) in the secondary market.

For accounting purposes, these notes are eliminated in consolidation and are not included in the Company's consolidated financial statements.

However, these securities remain legally outstanding at the trust level and the Company could sell these notes to third parties or redeem the notes at par as cash is generated by the trust estate.

Upon a sale of these notes to third parties, the Company would obtain cash proceeds equal to the market value of the notes on the date of such sale.

The table above includes these repurchased bonds.

(b) The majority of the Company’s asset-backed securities earn floating rates with expected returns of approximately LIBOR + 100 to 350 basis points to maturity.

As of December 31, 2022, $374.0 million (par value) of the Company’s asset-backed securities earn a weighted average fixed rate of 3.44%.

The Company’s portfolio of asset-backed securities has limited liquidity, and the Company could incur a significant loss if the investments were sold prior to maturity at an amount less than the original purchase price.

As of December 31, 2022, the net unrealized losses on the Company’s available-for-sale debt securities was $52.6 million, and the aggregate fair value of available-for-sale debt securities with unrealized losses was $1.2 billion.

The Company currently has the intent and ability to retain these investments, and none of the unrealized losses were due to credit losses.

See note 7 of the notes to consolidated financial statements included in this report for additional information.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7A. Quantitative and Qualitative Disclosures About Market Risk