Oct. 2 (Bloomberg) -- SLM Corp., the biggest U.S. educational lender, told shareholders it has ``liquidity'' of $11 billion even as the company's access to funding for non- government loans becomes more expensive.

The Reston, Virginia-based company's loan portfolio is 82 percent government guaranteed, for which the U.S. Department of Education is offering funding through July 2010, Chief Executive Officer Albert Lord said in a letter to shareholders, according to a regulatory filing today. Free cash flow over the next 15 months exceeds maturing debt by $600 million, Lord said.

Sallie Mae, as the company is known, rose 95 cents, or 11 percent, to $9.30 today in New York Stock Exchange composite trading after dropping a record 32 percent yesterday.

``They gave a lot of confidence that their free cash flow is going to be able to pay off their debt that's coming due,'' said William Ryan, a Colorado Springs, Colorado-based analyst for Portales Partners LLC. ``What they're telling you is they don't have to access the capital markets.''

Sallie Mae has lost 58 percent of its market value in the past four months on concern it's being forced to borrow money at rates higher than what it earns from its lending. The company said last month it was expanding its private loan business after legislation passed last year reduced the profits lenders can make on government-guaranteed debt.

The company may have to curtail those plans given the state of the credit markets, Portales Partners analysts led by Charles Peabody in New York said in a report today.

`Gripped by Fear'

Some of Sallie Mae's costs are tied to the London interbank offered rate, which for three-month borrowings has climbed to 4.21 percent in dollars today from 2.81 percent at the start of September, according to data compiled by Bloomberg.

Credit markets have frozen as financial institutions hoard cash to meet funding needs amid deepening concern that more banks will collapse. Libor, set by 16 banks in a daily survey by the British Bankers' Association, is used to set rates on $360 trillion of financial products worldwide.

``I think the markets are gripped by fear and lack of confidence,'' Sallie Mae Chief Financial Officer Jack Remondi said in an interview.

Sigma Collapse

The liquidation of a so-called structured investment vehicle, which held some Sallie Mae asset-backed securities, contributed to the fears, Remondi said without naming the fund.

``That obviously doesn't have a direct impact on us,'' said Remondi. ``It was a forced fire-sale approach and people moved on that.''

Sigma Finance Corp., a $27 billion structured investment vehicle managed by Gordian Knot Ltd., said yesterday it will cease trading and may appoint a receiver, which could lead to asset sales.

Sellers of credit-default swaps protecting against a Sallie Mae default demanded 31 percentage points upfront and 5 percentage points a year, according to CMA Datavision. That means it would cost $3.1 million initially and $500,000 a year to protect $10 million of the company's bonds from default for five years. That would imply a 78 percent chance of default in the next five years, a JPMorgan Chase & Co. valuation model shows.

Credit-default swaps, financial contracts used to hedge against losses or to speculate on creditworthiness, increase as investor confidence deteriorates.

Overlooking the Facts

``Over the past several weeks, and in particular over the last several days, we have all witnessed dramatic volatility in the equity and credit markets,'' Lord said in the letter. ``In the case of Sallie Mae, we believe markets are overlooking a number of indisputable facts.''

The company plans to raise about $2 billion a month over the next year to fund student loans, Lord told attendees of an investment conference last month.

``The issue has been the cost of money and as you are well aware in a de-leveraging economy, everybody is selling assets, and no one is buying them,'' Lord said.

The result had been ``irrational spreads'' on the yields the company was required to pay when funding its loans through the asset-backed securities market, he said.

Private Loans

The U.S. Senate passed the Bush administration's bank-rescue package yesterday with inducements for the House of Representatives to approve the measure after an earlier version was rejected. The legislation, approved on a 74-25 vote, authorizes the government to buy troubled assets from banks.

Sallie Mae reported on July 24 that second-quarter profit fell 72 percent as lower demand for loan-backed securities raised the cost of funding. Lord said Sept. 10 that Sallie Mae wants to make $10 billion in loans not backed by the government during the next 16 months to boost profit.

Private loans aren't subject to interest rate caps like federally guaranteed loans, and Sallie Mae can better pass its costs along to borrowers, Lord said at an investors' conference. Sallie Mae made $891 million in private loans in the three months ended June 30, compared with $1.89 billion of federally backed loans, according to regulatory filings.

Sallie Mae has stopped making private loans to students at schools with low graduation rates and more defaults, and will increase loans with co-signers, Lord said at the time. While other lenders have stopped making any private loans, Sallie Mae sees an opportunity, he said.

To contact the reporter on this story: Christine Richard in New York at crichard5@bloomberg.net; Joseph Galante in San Francisco at jgalante3@bloomberg.net.

Last Updated: October 2, 2008 16:16 EDT