CREFW-Winter2016

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Winter issue 2016 sponsored CRE Finance World Winter 2016
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Stephen Renna: I want to stay on the theme of CMBS because
Double Line has bought I think in 2015 six B-pieces.
Jeffrey Gundlach: Probably more than that but, yes, but we’ve
been buying B-pieces, yes.
Stephen Renna: What’s your view of investing in B-pieces and
particularly in the end of 2016 when risk retention gets imple-
mented, and a lot of the burden of having to fulfill the risk reten-
tion requirement will be on the B-piece buyer?
Jeffrey Gundlach: Yes. It probably will. And I think that on the horizon
is already affecting investor behavior. B-pieces require a lot of
work. There’s different ways of investing in fixed income. You can
find ways to do it where credit research and credit experience are
less necessary or helpful. And then you go to B-pieces where they
are essential. It’s critical to have people who are experienced and
dedicated to understanding and following the loans and modeling
out the cash flows. But this is a category where you get paid for
that, and we think that, by far, the highest risk-adjusted returns
in the fixed income market are in B-pieces and CMBS if they are
priced properly.
We’re not just going to buy B-piece assets indiscriminately. If you
buy them at the right moment when there is a little bit of fear in the
market or a lot of supply, I think loss-adjusted returns in the teens
are pretty easy to obtain — and with a higher probability in the
CMBS market than, say, in energy bonds where you could get 15%
returns if everything works out — but it’s a very binary outcome.
I think you’re right, that risk retention creates a scarcity of capital
for the lower end of capital structures. That means that those
things should incrementally stay cheap, if not get cheaper. That’s
one of the reasons why CMBS broadly is being dragged lower. If
you have a scarcity of capital, you’re going to have to increase the
potential return to attract that capital. That means that the whole
underlying asset has to be a little bit lower in price.
Risk retention without any doubt is going to put further stress on
the credit market and — which is another reason why it’s curious
that the Fed wants to raise interest rates. Maybe they’re scared to
death that if they have to raise them in 2016, they’ll have a real
perfect storm on their hands with the onset of risk retention perhaps
coinciding with a perception of Fed policy being behind the curve
and who knows what else. So I do think that risk retention will create
further concerns and, therefore, opportunities in the lower parts of
the capital structure of securitized assets. It probably will be more
interesting to be a larger buyer, but this opportunity is already quite
good. It’s just a question of how good it ultimately becomes.
This reminds me of some things that were happening in ‘07 into
‘08 where the prices were perfectly low enough on RMBS assets
in the middle of ‘08, but they got a lot lower because there was a
scarcity of capital, then because of ratings downgrades. But we
were buyers all the way through once it reached a good-enough
level because we’re more than happy to add substantially more to
the position if the value becomes even more compelling.
The good thing is we manage a lot of money, about $85 billion. If
we wanted to put a really big trade on in CMBS B-pieces, we would
be talking about billions of dollars. We can’t wait until we think it’s
the optimal minute of the optimal day because there’s no way we’d
be able to accumulate anything close to the aggregated position
needed to make a meaningful contribution to our portfolio positioning.
We bought RMBS pretty much constantly from March of ‘08 until
June of ‘09, and there were a lot of different processes along the
way. But all of those trades turned out to be homeruns, and I would
say that if you started that program in CMBS B-pieces, with the
right approach, the right resources, the right staff, you would have
the same type of opportunity to average into pretty high returns.
Stephen Renna: This has been extraordinarily interesting. I know
our members and others in the CRE finance industry are going
to be very excited to read your thoughts and reflections. Thank
you very, very much.
Jeffrey Gundlach: I enjoyed it. Good luck to your readers.
CREFC Exclusive Interview with Jeffrey Gundlach