Hedge funds are preparing to muscle in on the riskiest part of the $550 billion commercial mortgage bond market, where a handful of firms control the fate of deals.
Ellington Management Group LLC, Saba Capital Management LP and a fund of MatlinPatterson are among investors considering purchases of so-called B-pieces of newly issued commercial property bonds, according to people familiar with the three firms’ plans who asked not to be identified because the information is private.
Buyers of the securities are the first to lose money when buyers default; in exchange they earn higher returns and control over which mortgages are included in new deals created by Wall Street.
The investments, which can yield as much as 24 percent, are dominated by loan specialists -- Rialto Investments and Eightfold Real Estate Capital bought 16 of the 27 B-pieces sold last year -- when about $35 billion of mortgage bonds were issued, according to Deutsche Bank AG.
The pool of buyers is poised to widen as new issuance soars and investors try to ferret out ways to get high-yielding returns as the Federal Reserve holds interest rates close to zero into a fifth year.
“Funds are increasingly getting more creative in terms of complexity and illiquidity,” said Rael Gorelick, co-founder and principal of Charlotte, North Carolina-based Gorelick Brothers Capital LLC, which invests in mortgage funds. “This is a rates- are-low story. Where else are you going to go?”