Tags: bonuses, Compensation, conspiracy theories, volatility
We’ve talked before about the theory that paying investment bankers in stock gives them an incentive to maximize the volatility of their businesses, which is a thing that some people don’t want so much. This starts from the notion that in a 10 or 20 or 30:1 levered bank or broker-dealer or futures merchant, the bulk of the money at risk belongs to the creditors, whether unsecured or depositors or repo or ex-wives or whatever. So it’s plausible to think of the equity as an at-the-money option to buy the assets from the creditors. And as any Level I CFA test completer could tell you with approximately 70% probability, the value of an option increases with volatility. If you own the equity in a bank with $29 billion in debt and $1 billion in equity market value, then you’ll prefer equally likely payoffs of [$25, $35 billion] to payoffs of [$29.99, $30.01 billion], because the higher volatility payoff increases the expected value of the equity (which, after all, can’t go below zero). If, however, you are a creditor of that firm, your preferences are the opposite.
This is all pretty straightforward and orthodox, and it probably ought to inform how you think about the incentives to bankers from owning their bank’s equity, and if you think that way then maybe you come up with ideas like “pay them in CDS” or whatever. On the other hand this theory shouldn’t be taken too seriously. When your entire net worth is in Jefferies stock, “the equity can’t go below zero” isn’t all that comforting.
But it’s worth remembering that incentives from owning equity are not exactly the same as incentives from being paid in equity: people who have a lot of stock feel different from people who stand to one day get a lot of stock. That’s the interesting takeaway from this weekend’s DealBook piece about the fact that bank stocks sometimes go up. (And sometimes they don’t.) For example:
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Tags: Banks, Compensation, NY Fed, Regulation, research
The Fed has three basic functions: central banking, bank regulation, and calling down police brutality on Occupy Wall Street protesters. While the first function is getting all the attention today, the New York Fed’s blog is spending some time on the second. Specifically, they’re trying to figure out how bankers should get paid.
Optimal design of banker compensation is a thing that people like to think about, and that regulators like to regulate. We’ve talked about it before, and I’ve suggested that the right way to reward bankers is not to give them mostly equity or extra-levered equity, which encourages asymmetric risk-taking, but rather to give them exposure to their firm that roughly matches that of their main stakeholders. Which, for a bank, means basically various flavors of creditors. So a bank CEO whose net worth consists 20% of equity of his firm and 80% of unsecured debt of his firm, like Brian Moynihan, in theory has better incentives to do the right thing by bondholders, depositors and the financial system than someone who’s 100% in out-of-the-money stock options. And a banker who is paid in structured credit products that can’t be foisted on to clients has incentives … well, he’s an interesting case study at least.
I like the NY Fed researcher-bloggers because they’re pretty sober people who want to optimize banking regulation but don’t spend their time freaking out about stupid popular things like how CDS will kill us all, banning short selling, or just generally hating on bankers. So I’m pleased to see NY Fed researcher Hamid Mehran is with me on this whole comp thing: Read more »
Tags: $6k shower curtains, a birthday cake in the shape of a woman's breasts with sparklers mounted on top, bonuses, Compensation, Dennis Kozlowski, opinions, prison interviews, Tyco
Remember Dennis Kozlowski? Bald guy, about yay* high? Actually kind of cherubic-looking, in that you could see him playing Cupid in the school play? Used to run this company called Tyco until he was sentenced to 8 1/3 to 25 years in prison? Anyway, quick story about Big D is that the reasons he’s in jail include but are not limited to: 1) paying himself $105 million in 2000 when maybe he should’ve taken a bit less, 2) outfitting the bathroom in his company-funded apartment with a $6,000 shower curtain that even John Thain said no to when it came to decorating his executive washroom, 3) throwing his wife a birthday party in Sardinia that cost (Tyco) $2 million, on account of the performance by Jimmy Buffett, the togas for the guests, the “ice sculpture of Michelangelo’s David spewing vodka from his penis and a birthday cake in the shape of a woman’s breasts with sparklers mounted on top,” the latter of which do not come cheap, this much we promise you. For all of that and more, D-Koz was found guilty on counts of grand larceny, conspiracy and securities fraud. Anyway, the joint has provided a lot of reflection time for DK, and recently, he sat down to share what’s on his mind. Read more »
Tags: Bruce Thomas, Chief Risk Officers, Compensation, fads, get it while it's hot
In 2010, the year he was appointed Bank of America’s Chief Risk Officer, Bruce Thomson’s compensation topped $11 million, making him the highest paid executive at the firm (CEO Brian Moynihan, by comparison, received $1.94 million and former Countrywide CEO-cum-BAC in-house cocktail waitress took home $17,509 in tips**). Does Thomson’s massive package make him stand out when he and his peers in the field attend two weeks of risk camp every summer? Apparently not, because according to a guy who studies such things, risk officers are gettin’ paid. And not only that? People are starting to show them respect. Like acknowledging their existence in the elevator respect.
Citigroup, AIG and UBS are among other companies raising the profile of risk executives. The derivatives meltdown that sparked the 2008 Lehman Brothers Holdings Inc. collapse and an 18-month recession catapulted the role from obscurity to contention for future chief executive officers. “The person sitting in the risk chair now is reporting to the CEO so the caliber has to be higher,” said Neil Hindle, who runs the CRO search practice at Egon Zehnder International in New York. “There has been a real increase in power over the last two years.” That’s evident in the compensation, which can reach $10 million at large financial institutions now, compared with $500,000 as recently as 2001, Hindle said. Five years ago, a CRO typically reported no higher than the CFO, he said. Citigroup Chief Risk Officer Brian Leach said it’s expected he’ll have a seat at the table when Chief Executive Officer Vikram Pandit makes key decisions. A decade ago, a bank risk executive often wasn’t in the room, he said.
Yes, it’s a whole new world for once invisible employees who previously were accustomed to coming into the office several times a quarter and finding someone else at their desk, because HR “didn’t realize someone sat there.” Unfortunately, the pay and the sense that the people you’ve worked for for 5 years know your name isn’t Steve (≠ Tom) will not last long, because according to HBS professor Jay Lorsch, we’ve got about two or three years before people can go back to not giving a shit about you/the work you do anymore. Read more »
Tags: Compensation, raises, UBS
As you may have heard, lots of people have been leaving UBS lately, which may have something to do with the fact that people would like to get paid. While a handful of marquee names (within the industry) have been lured with big checks, many senior bankers have heard nary a peep re bonuses in several years (and the staff’s pay overall is nothing to write home about, either), making employment with places like Citi look good. Possibly seeing recent defections to Vikram’s House of Kicks as one indignity too far, management tried to put a stop on the exodus late yesterday. Read more »
Tags: Carsten Kengeter, Compensation, pump up speeches, spoiled children, UBS, you just don't get it
As you may have heard, UBS has been going through a bit of a rough patch. Despite posting an annual profit (of 7.2 billion Swiss francs) for the first time since 2006, things just haven’t been the same since the crisis, and some have suggested it never will be, claiming that the bank “doesn’t have a chance” getting back to pre-crisis levels because “too much damage has been done.” Not helping things is the fact that there’s been very high turnover in the last couple months, which may have something to do with the fact that people would like to get paid. While a handful of marquee names (within the industry) have been lured with big checks, many senior bankers have heard nary a peep re bonuses in several years (and the staff’s pay overall is nothing to write home about, either). As one might imagine, tension is running high and recently within the investment bank, there’s been a decision, among those who’ve yet to quit, to air their grievances. The reaction from management? Put a sock in it. Read more »
Tags: Compensation, outright lies, UBS
As we reported last week, in response to the sense it was getting that people were quitting and/or not accepting offers because they wanted to get paid, UBS raised base salaries for some employees. Not everyone got a bump, however, making the statement by CFO John Cryan that raises were “across the board” chap some serious hide. Read more »