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Item 3. Quantitative and Qualitative Disclosures About Market Risk

2024-05-09 compared with 2023-11-07 · 46 added, 81 removed, 103 unchanged (55% of the section changed)

1 unchanged sentence

(All dollars are in thousands, except share amounts, unless otherwise noted)

LIBOR Transition

On June 30, 2023, the LIBOR administrator ceased publication (on a representative basis) of all USD LIBOR rates.

When possible, the Company relied on fallback provisions or negotiated with counterparties to transition financial contracts from LIBOR to SOFR.

Due to certain noteholder consent requirements, it was not practicable to modify certain of the Company's

asset-backed securities transactions.

The SAP formula for the Company's FFELP loans, the majority of which were indexed to one-month LIBOR, were not able to be modified without legislative action.

On March 15, 2022, the Adjustable Interest Rate (LIBOR) Act (the LIBOR Act) was signed into law.

The LIBOR Act provides that for contracts that contain no fallback provision or contain fallback provisions that do not identify a specific USD LIBOR benchmark replacement (including the SAP formula for FFELP loans), a benchmark replacement based on SOFR will automatically replace the USD LIBOR benchmark in the contract after June 30, 2023.

Following the enactment and implementation of the LIBOR Act, all of the Company's financial instruments which were indexed to USD LIBOR transitioned to SOFR after June 30, 2023.

Specifically, after June 30, 2023, the SAP formula for FFELP loans transitioned to 30-day Average SOFR and the Company's LIBOR-indexed FFELP asset-backed securities also transitioned to a short-term SOFR index.

The Company does not expect the transition from LIBOR to SOFR to significantly impact its asset-backed securitization cash flow forecast as discussed under Part I, Item 2, "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources - Liquidity Needs and Sources of Liquidity Available to Satisfy Debt Obligations Secured by Loan Assets and Related Collateral - Bonds and Notes Issued in Asset-backed Securitizations." The Company's LIBOR-indexed derivatives transitioned to the fallback rate (SOFR) as defined in the individual agreements and/or published industry guidelines, as applicable.

The market transition away from the previous LIBOR framework could result in significant changes to the interest rate characteristics of the Company's prior LIBOR-indexed assets and funding for those assets.

The Company is still uncertain as to the long-term relationship between overnight SOFR and Term SOFR as they are new indices, and the Company's assumptions with respect to this relationship may evolve over time.

To the extent that the spread between these indices were to widen, it could adversely impact future interest income earned on the Company's FFELP student loan portfolio.

For a discussion of the risks related to the LIBOR transition, see Item 1A, "Risk Factors - Loan Portfolio - Interest rate risk - replacement of LIBOR as a benchmark rate" in the Company's 2022 Annual Report for additional information.

Interest Rate Risk - AGM Operating Segment

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The following table sets forth AGM’s loan assets and debt instruments by rate characteristics:

As of September 30, 2023 As of December 31, 2022

As of March 31, 2024 As of December 31, 2023

Dollars Percent Dollars Percent

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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.

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.

No variable-rate floor income was earned by the Company in 2024 or 2023.

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

Three months ended September 30, Nine months ended September 30,

2023 2022 2023 2022

Three months ended March 31,

Fixed rate floor income, gross $ 180 1,110

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

Gross fixed rate floor income decreased for the three and nine months ended September 30, 2023 compared with the same periods in 2022 due to higher interest rates in 2023 compared with 2022.

Gross fixed rate floor income decreased for the three months ended March 31, 2024 compared with the same period in 2023 due to higher interest rates in 2024 compared with 2023.

The Company had a significant portfolio of derivative instruments in which the Company paid a fixed rate and received a floating rate to economically hedge loans earning fixed rate floor income.

On March 15, 2023, to minimize the Company's exposure to market volatility, the Company terminated its entire derivative portfolio hedging loans earning fixed rate floor income ($2.8 billion in notional amount of derivatives).

During the first quarter of 2023, to minimize the Company's exposure to market volatility and increase liquidity, the Company terminated its derivative portfolio hedging loans earning fixed rate floor income ($2.8 billion in notional amount of derivatives).

Through March 15, 2023, the Company had received cash or had a receivable from its clearinghouse related to variation margin equal to the fair value of the $2.8 billion notional amount of fixed rate floor derivatives as of March 15, 2023 of $183.2 million, which included $19.1 million related to current period settlements.

The decrease in net derivative settlements received by the Company during the three months ended September 30, 2023, compared with the same period in 2022, was due to the termination of the fixed rate floor derivatives in March 2023.

The increase in net derivative settlements received by the Company during the nine months ended September 30, 2023, compared with the same period in 2022, was due to an increase in settlements on the Company's derivatives outstanding during this period as a result of an increase in interest rates.

The following table shows AGM’s federally insured student loan assets that were earning fixed rate floor income as of September 30, 2023.

Subsequent to terminating these derivatives, during the second and fourth quarters of 2023, the Company entered into a total of $400.0 million notional amount of derivatives to hedge loans earning fixed rate floor income and other loans and investments in which the Company receives a fixed rate.

The decrease in net derivative settlements received by the Company during the three months ended March 31, 2024, compared with the same period in 2023, was due to a decrease in the notional amount of derivatives outstanding and less favorable terms on the $400.0 million of notional derivatives entered into in 2023 compared with the $2.8 billion notional derivatives that were terminated due to an increase in interest rates from when the terminated derivatives were initially executed.

For further details of the Company’s derivatives used to hedge fixed rate loans, see note 4 of the notes to consolidated financial statements included in Part I, Item 1 of this report.

The following table shows AGM’s federally insured student loan assets that were earning fixed rate floor income as of March 31, 2024.

Fixed interest rate range Borrower/lender weighted average yield Estimated variable conversion rate (a) Loan balance

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

As of September 30, 2023, the weighted average estimated variable conversion rate was 5.91% and the short-term interest rate was 541 basis points.

In June 2023, the Company entered into a derivative with a notional amount of $50.0 million and a maturity date in 2030 to hedge a portion of loans remaining that earn fixed rate floor income.

Based on the terms of this derivative, the Company pays a weighted average fixed rate of 3.44% and receives payments based on SOFR that resets quarterly.

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.

The following table presents AGM’s FFELP student loan assets and related funding for those assets arranged by underlying indices as of September 30, 2023.

As of March 31, 2024, the weighted average estimated variable conversion rate was 5.93% and the short-term interest rate was 556 basis points.

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

The following table presents AGM’s FFELP student loan assets and related funding for those assets arranged by underlying indices as of March 31, 2024.

Index Frequency of variable resets Assets Funding of student loan assets

30 day Average SOFR (a) (b) Daily $ 11,513,858 —

30-day average SOFR (a) Daily $ 9,725,214 —

3-month H15 financial commercial paper Daily 336,128 —

3-month Treasury bill Daily 321,711 —

30 day Average SOFR / 1 month CME Term SOFR (a) Monthly — 6,932,106

90 day Average SOFR / 3 month CME Term SOFR (a) (b) Quarterly — 3,096,170

Asset-backed commercial paper (c) Varies — 1,466,178

30-day average SOFR / 1-month CME Term SOFR Monthly — 6,198,559

90-day average SOFR / 3-month CME Term SOFR (a) Quarterly — 2,567,482

Asset-backed commercial paper (b) Varies — 1,066,197

Fixed rate — — 430,061

Auction-rate (d) Varies — 89,910

Other (e) — 1,197,776 1,414,999

Auction-rate (c) Varies — 84,660

Other (d) — 1,250,367 1,286,461

$ 11,633,420 11,633,420

(a) Transitioned from LIBOR to SOFR after June 30, 2023.

See "LIBOR Transition" above.

(b) The Company has certain basis swaps outstanding in which the Company received three-month LIBOR set discretely in advance and paid one-month LIBOR plus or minus a spread as defined in the agreements (the "1:3 Basis Swaps").

Subsequent to the discontinuation of LIBOR on June 30, 2023, the Company now receives and pays the term adjusted SOFR plus the tenor spread adjustment relating to LIBOR.

(a) The Company has certain basis swaps outstanding in which the Company receives and pays the term adjusted SOFR plus the tenor spread adjustment to LIBOR.

Prior to the discontinuation of LIBOR on June 30, 2023, the Company received three-month LIBOR set discretely in advance and paid one-month LIBOR plus or minus a spread as defined in the agreements (the "1:3 Basis Swaps").

The Company entered into these derivative instruments to better match the interest rate characteristics on its student loan assets and the debt funding such assets.

The following table summarizes the 1:3 Basis Swaps outstanding as of September 30, 2023.

The following table summarizes the 1:3 Basis Swaps outstanding as of March 31, 2024.

Maturity Notional amount (i)

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2026 1,150,000

(i) The weighted average rate paid by the Company on the 1:3 Basis Swaps as of September 30, 2023 was the term adjusted SOFR plus the tenor spread adjustment relating to LIBOR plus 10.1 basis points.

(d) As of September 30, 2023, the Company was sponsor for $89.9 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”).

(i) The weighted average rate paid by the Company on the 1:3 Basis Swaps as of March 31, 2024 was the term adjusted SOFR (plus the tenor spread adjustment relating to LIBOR) plus 10.1 basis points.

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

(c) As of March 31, 2024, the Company was sponsor for $84.7 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 SOFR or Treasury Securities, or the Net Loan Rate as defined in the financing documents.

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

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

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

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

Sensitivity Analysis

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Dollars Percent Dollars Percent Dollars Percent Dollars Percent

Three months ended September 30, 2023

Effect on earnings:

Increase (decrease) in pre-tax net income before impact of derivative settlements $ 522 1.0 % $ 2,093 4.0 % $ 2,166 4.1 % $ 9,199 17.4 %

Impact of derivative settlements (a) 126 0.2 378 0.7 (126) (0.2) (378) (0.7)

Increase (decrease) in net income before taxes $ 648 1.2 % $ 2,471 4.7 % $ 2,040 3.9 % $ 8,821 16.7 %

Increase (decrease) in basic and diluted earnings per share $ 0.01 $ 0.05 $ 0.04 $ 0.18

Three months ended September 30, 2022

Three months ended March 31, 2024

Effect on earnings:

Increase (decrease) in pre-tax net income before impact of derivative settlements $ (2,396) (1.9) % $ (3,702) (2.9) %

Increase in pre-tax net income before impact of derivative settlements $ 711 0.7 % $ 2,500 2.7 % $ 1,941 2.1 % $ 8,557 9.1 %

Impact of derivative settlements 746 0.8 2,238 2.3 (746) (0.8) (2,238) (2.4)

Increase (decrease) in net income before taxes $ 4,157 3.3 % $ 15,958 12.6 %

Increase (decrease) in basic and diluted earnings per share $ 0.08 $ 0.32

Nine months ended September 30, 2023

Increase in net income before taxes $ 1,457 1.5 % $ 4,738 5.0 % $ 1,195 1.3 % $ 6,319 6.7 %

Increase in basic and diluted earnings per share $ 0.03 $ 0.10 $ 0.02 $ 0.13

Three months ended March 31, 2023

Effect on earnings:

Increase (decrease) in pre-tax net income before impact of derivative settlements $ 2,006 1.8 % $ 9,525 8.4 % $ 2,556 2.2 % $ 16,611 14.6 %

Increase in pre-tax net income before impact of derivative settlements $ 772 2.5 % $ 4,403 14.1 % $ 76 0.2 % $ 3,650 11.7 %

Impact of derivative settlements (a) — — — — — — — —

Increase (decrease) in net income before taxes $ 2,165 1.9 % $ 10,002 8.8 % $ 2,397 2.1 % $ 16,134 14.2 %

Increase (decrease) in basic and diluted earnings per share $ 0.04 $ 0.20 $ 0.05 $ 0.33

Nine months ended September 30, 2022

Effect on earnings:

Increase (decrease) in pre-tax net income before impact of derivative settlements $ (18,464) (3.9) % $ (31,854) (6.7) %

Impact of derivative settlements 25,008 5.3 75,025 15.8

Increase (decrease) in net income before taxes $ 6,544 1.4 % $ 43,171 9.1 %

Increase (decrease) in basic and diluted earnings per share $ 0.13 $ 0.87

(a) On March 15, 2023, the Company terminated its existing derivative portfolio hedging loans earning fixed rate floor income.

Increase in net income before taxes $ 772 2.5 % $ 4,403 14.1 % $ 76 0.2 % $ 3,650 11.7 %

Increase in basic and diluted earnings per share $ 0.02 $ 0.09 $ 0.00 $ 0.07

(a) On March 15, 2023, the Company terminated its derivative portfolio hedging loans earning fixed rate floor income.

The table above excludes the impact of these derivatives for the entire period.

5 unchanged sentences

Dollars Percent Dollars Percent Dollars Percent Dollars Percent

Three months ended September 30, 2023 Three months ended September 30, 2022

Effect on earnings:

Increase (decrease) in pre-tax net income before impact of derivative settlements $ (1,167) (2.2) % $ (3,501) (6.6) % $ (1,148) (0.9) % $ (3,445) (2.7) %

Impact of derivative settlements 794 1.5 2,382 4.5 1,235 1.0 3,705 2.9

Increase (decrease) in net income before taxes $ (373) (0.7) % $ (1,119) (2.1) % $ 87 0.1 % $ 260 0.2 %

Increase (decrease) in basic and diluted earnings per share $ (0.01) $ (0.02) $ 0.00 $ 0.01

Nine months ended September 30, 2023 Nine months ended September 30, 2022

Three months ended March 31, 2024 Three months ended March 31, 2023

Effect on earnings:

Increase (decrease) in pre-tax net income before impact of derivative settlements $ (3,462) (3.0) % $ (10,387) (9.1) % $ (3,609) (0.8) % $ (10,828) (2.3) %

Decrease in pre-tax net income before impact of derivative settlements $ (1,017) (1.0) % $ (3,050) (3.2) % $ (1,113) (3.6) % $ (3,339) (10.7) %

Impact of derivative settlements 783 0.8 2,349 2.5 777 2.5 2,330 7.5

Increase (decrease) in net income before taxes $ (1,106) (0.9) % $ (3,319) (2.9) % $ 303 — % $ 905 0.2 %

Increase (decrease) in basic and diluted earnings per share $ (0.02) $ (0.07) $ 0.01 $ 0.02

Decrease in net income before taxes $ (234) (0.2) % $ (701) (0.7) % $ (336) (1.1) % $ (1,009) (3.2) %

Decrease in basic and diluted earnings per share $ (0.00) $ (0.01) $ (0.01) $ (0.02)

Interest Rate Risk - Nelnet Bank

2 unchanged sentences

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

As of September 30, 2023 As of December 31, 2022

As of March 31, 2024 As of December 31, 2023

Dollars Percent Dollars Percent

11 unchanged sentences

The derivatives are not reflected in the above table.

See note 4 of the notes to the consolidated financial statements included under Part I, Item 1 of this report for a summary of Nelnet Bank's derivatives outstanding as of September 30, 2023.

See note 4 of the notes to the consolidated financial statements included under Part I, Item 1 of this report for a summary of Nelnet Bank's derivatives outstanding as of March 31, 2024.

Interest Rate and Market Risk - Investments

1 unchanged sentence

The table below excludes securities (investments) held by Nelnet Bank.

Three months ended March 31,

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

Nine months ended September 30,

Asset-backed securities available-for-sale (a) (b) $ 863,634 14,012 6.51 % $ 1,309,752 17,486 5.41 %

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

As of September 30, 2023, $257.5 million (par value) of the Company’s asset-backed securities earn a weighted average fixed rate of 3.52%.

As of March 31, 2024, $212.3 million (par value) of the Company’s asset-backed securities earn a weighted average fixed rate of 3.17%.

(c) Interest incurred by the Company on amounts borrowed under the participation agreement is at a variable rate of SOFR + 62.5 basis points.

(d) Interest incurred by the Company on amounts borrowed under the repurchase agreements is at a variable rate of SOFR + 75 to 140 basis points.

(d) Interest incurred by the Company on amounts borrowed under repurchase agreements is at a variable rate of SOFR + 100 to 140 basis points.

The Company’s portfolio of asset-backed investment 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 September 30, 2023, the gross unrealized loss on the Company’s available-for-sale debt securities was $44.6 million, and the aggregate fair value of available-for-sale debt securities with unrealized losses was $717.1 million.

As of March 31, 2024, the gross unrealized loss on the Company’s available-for-sale debt securities was $27.8 million, and the aggregate fair value of available-for-sale debt securities with unrealized losses was $482.7 million.

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

1 unchanged sentence

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-Q

Item 3. Quantitative and Qualitative Disclosures About Market Risk