First CMBS to Comply With Risk Retention Rule Hits the Market

The Renaissance Dallas is backing one of the loans in the conduit. Photo by Marriott.

WASHINGTON, DC—The long-awaited risk retention rule mandated under Dodd Frank is set to go into effect on Dec. 24, 2016, but the industry always knew that from a practical perspective deals would have to be compliant by mid-year. And so the first conduit that complies with the rule has hit the market and contrary to most expectations, it isn’t a capital market catastrophe in the making.

First, though, a quick look at why the commercial real estate market had been concerned about the rule.

The risk-retention requirement calls for CMBS loan originators to retain at least 5% of the credit risk using one of the following structures:

1. an  eligible vertical interest, in which the sponsor retains 5% of the face value of each class of securities issued in the CMBS transaction.

2. an eligible horizontal interest in which the sponsor retains 5% of the most subordinate class of the fair value of all of the CMBS issued.

3. An L-shaped combination in which the retained interest consists of at least 5% of the value of the transaction held through a combination of the two aforementioned structures.

But how this would play out in an actual structure was unclear, especially as another big concern was how, or if, B piece buyers would be receptive to these new structures. The risk-retention rules also contain some challenging requirements for these investors as well.