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CMA
May 27, 2016  

Och-Ziff Enters B-Piece Fray, Nabs First Deal

Och-Ziff Capital has circled its first conduit B-piece and plans to continue buying after risk-retention rules kick in late this year.

The New York hedge-fund manager is teaming up with LNR Partners to acquire the below-investment-grade portion of a commercial MBS deal that J.P. Morgan and Deutsche Bank will bring to market next month (JPMCC 2016-C2).

Och-Ziff is one of the first new B-piece buyers to emerge in the wake of risk retention, which will reshape the CMBS market. The regulations, effective Dec. 24, require CMBS issuers — or B-piece buyers in their stead — to retain 5% of transactions for at least five years. Because of the restricted liquidity, some existing buyers are expected to exit the sector while new investors enter.

LNR, one of the most-active B-piece buyers, is leading the JPMCC investment. It negotiated the purchase agreement and brought in Och-Ziff as a minority partner. LNR, a Miami Beach unit of Starwood Property, will also be special servicer of the roughly $850 million conduit offering, backed by loans from J.P. Morgan, Deutsche, Starwood Mortgage Capital, Benefit Street and Walker & Dunlop.

Och-Ziff will make the investment via its structured-products division, rather than its commercial real estate investment platform. The commercial real estate unit rolled out an $800 million high-yield-debt fund last year — but it focuses on originating mezzanine and bridge loans, not acquiring B-pieces.

Och-Ziff has “a lot of different pockets of capital, and they are nimble, so they can move in and out as market conditions change,” said one source.

Matt Tuten, whom Och-Ziff hired last year to oversee CMBS trading, will manage the B-piece investments. Tuten, who reports to U.S. structured-products chief Akhil Mago, had previous stints at New York fund shop Prosiris Capital and RBS.

The risk-retention rules, mandated by the Dodd-Frank Act, require lenders to “keep skin in the game” by retaining 5% of securitizations for five years. They can hold on to a “vertical strip” encompassing 5% of the face amount of each class, a “horizontal” 5% strip at the bottom of the capital stack, or an “L-shape” strip that combines the first two options. Alternatively, all or part of the risk-retention responsibility can be passed off to B-piece buyers, which must use the horizontal option.

If an issuer retains a vertical strip, the remaining 95% of bonds can be sold to investors with no retention restriction. In other words, a B-piece buyer could acquire 95% of the below-investment-grade paper in the conventional fashion. However, if the risk-retention responsibility is passed off to a B-piece buyer in the form of a horizontal strip, that buyer must retain those bonds for at least five years.

Initially, the big bank issuers are expected to employ the vertical option to ensure that the market continues to function smoothly. However, that isn’t seen as a long-term strategy for most, because of the required capital set-asides for retained bonds.

That has raised the question of whether there will be enough long-term capital available at an acceptable price for B-piece purchases if the horizontal strip becomes the default option. At first, market pros feared it would be hard to find enough investors willing to enter into the illiquid investments. But recently, more players are expressing confidence that investors will step up. The emergence of a giant investor like Och-Ziff reinforces that confidence, although it remains to be seen, of course, whether the prices that buyers will pay for horizontal strips will leave enough profit for issuers.

While this will be Och-Ziff’s first purchase in the private-label market, the shop did acquire the B-pieces of two Freddie Mac securitizations more than five years ago — the $156.3 million FREMF 2010-K7 offering and the $153 million FREMF 2011-K11 deal. Both issues were led by Bank of America and Deutsche.