The gloomy news about Wall Street bonuses isn’t likely to make anyone happy, not even the Occupy Wall Street crowd.
Johnson Associates, the compensation firm that studies Wall Street trends most closely, predicted yesterday that the eagerly awaited year-end bonuses that will be paid out in the coming months are likely to fall as much as 30% below last year’s levels, with the once lavishly rewarded traders and investment bankers feeling the deepest pain.
Needless to say, disgruntled traders, the folks who measure their self worth by their net worth and particularly by the size of the bonus check they deposit at the start of every new year, will gripe about how little they are being paid for navigating some this year’s perilous markets. They’re not likely to get a sympathetic hearing from the OWS protesters, who can point out that most investment bankers will still take home six- or seven-digit pay checks. And they probably won’t get much pity from their shareholders, who have already incurred sizeable losses: Goldman Sachs (GS), Morgan Stanley (MS), and Citigroup (C) have all lost more than a third of their market value this year. And the median payout rate – the percentage of the companies’ pretax income and revenue forked over to employees in the form of bonuses – is actually likely to climb, the Johnson Associates report concludes.
But this is a tale of two cities, and two separate surveys. The second, a poll of 500 employees in the City of London, conducted for London’s St. Paul Institute, was, according to British media reports, initially suppressed by the sponsor (which is affiliated with the Church of England) for fear of intensifying an “Occupy Wall Street” protest going on near St. Paul’s Cathedral. Nearly two-thirds of those responding said their most important incentive was the size of their paycheck and bonus – but a majority felt they were overpaid.
The irony is that we all may end up paying a price for compensation levels that fall too low or compensation structures that are poorly conceived. Just ask Ray Kennedy, a former Pimco investment manager who now runs the Hotchkiss & Wiley High Yield Bond Fund (HWHAX). “If a trader isn’t going to get paid and rewarded for the risk he takes, or is going to be paid in ’funny money’ (such as out-of-the-money stock options or restricted stock), then why is he going to go out of his way to take risks in order to increase liquidity in our markets?” says Kennedy. (Bond traders are likely to be worst hit by compensation cuts this year, the Johnson survey says, with bonus checks falling 35% to 45%.)
Junk bond investors are already seeing the consequence of the pullback on the part of traders from making markets in the securities they own, Kennedy says. The less liquid a market is – the fewer investors willing to buy or sell at a wide range of prices – the more volatile stock and bond prices can be, even when nothing fundamental has changed. That’s less of a problem in stock markets than with bonds, and Kennedy and his fellow investors count on trading desks at firms like Goldman and Morgan Stanley to serve as market-makers, offering to buy what they need to sell and vice versa. But now those trading desks have less capital to work with, and that is already making traders less able to fill the marketmaker role. If a trader believes he’s not going to be rewarded for taking on more risk in the shape of a higher bonus, that’s going to leave him with even less incentive to boost liquidity for his clients in tough market environments.
Maybe it’s time to stop obsessing about the absolute dollar (or British pound) amounts paid out as bonuses on Wall Street, and instead start devising ways to link compensation to desirable outcomes, whether those are as simple as a higher stock price or increased liquidity in difficult market environments, or more amorphous, such as increasing the stability of the financial industry.
