New York: The credit market freeze that is paralyzing leveraged buyouts, mergers and myriad computer-driven trading strategies may cut Wall Street bonuses for the first time in five years.
“There’s a lot of pessimism out there,” said Gary Goldstein, chief executive officer of executive search firm Whitney Group in New York. “Looking at the world today as we see it and the impact the crunch is likely to have, it looks like bonus pools will decline.”
Bonuses—the financial industry’s annual rite of compensation that typically is a multiple of salary— will probably decline as much as 5% from 2006, according to Options Group—the New York-based firm that has tracked pay and hiring trends for more than a decade.
While the payouts often far exceeded the average of $220,650 (more than Rs90 lakh) at the biggest US securities firms last year, and increased as much as 20% from 2005, the subprime mortgage collapse has already drained the punch bowl.
Hardest hit will be those who create and sell securities backed by mortgages or pools of debt, Options Group said. One out of every three people in those roles may lose their jobs unless business picks up by the end of the year, the firm estimates. Bonuses may fall as much as 40%.
Hedge fund investment managers, whose average payout climbed as much as 15% last year, may see a drop of 5-10% in 2007. Bonuses for employees in fixed-income units may fall as much as 10%, compared with a 10% gain last year, Options Group estimates.
Except at the most junior levels, traders and bankers receive most of their annual pay in year-end bonuses that are determined in part by the revenue produced by the individual, their division and the firm as a whole. The average bonus per employee at Wall Street’s five biggest firms rose 18% in 2006, according to Bloomberg calculations based on company reports.
Individual bonuses vary, with some administrative staff receiving nothing and executives such as Lloyd Blankfein Goldman Sachs Group Inc. CEO getting more than $50 million on top of his $600,000 salary. Even Blankfein’s pay, which is based partly on the firm’s operating results and stock performance, may be lower. Goldman’s stock, after climbing 56% last year, has dropped 12%. Revenue, which gained 49% in 2006, rose 11% in the first half of 2007.
Lucas van Praag, a Goldman spokesperson, said Blankfein would not be available for comment.
Recruiters, who are seeing a pickup in resumes from hedge funds and leveraged buyout firms, cautioned that it is too soon to know what will happen by the time banks start bonus discussions, typically in October. They also note that traders involved in equities, commodities and distressed debt are having a good year and are likely to reap bumper payouts.
“This is the quarter that is going to determine whether compensation is going to be lower or not,” said Michael Karp, CEO of the Options Group—which bases its estimates on interviews with senior industry executives and information gathered by the firm’s network of consultants.
The crisis that started with the mortgage loans to the riskiest borrowers has sent equity and bond prices worldwide on a roller-coaster ride. The market for mortgage-backed securities has dried up, hurting those who trade the bonds or sell them to investors. Investment banks haven’t been able to find buyers for leveraged-buyout loans. Prime brokers may see fees drop as some hedge funds close and others reduce borrowing.
Funds that have already shut or failed this year include two credit pools managed by Bear Stearns & Co. Inc., UBS AG’s Dillon Read Capital Management Llc. and Sowood Capital Management LP of Boston.
“We’re already seeing a lot of resumes from hedge funds, and we’re seeing them at the more junior level, a lot of these kids that defected to hedge funds for more money or a better lifestyle,” said Deborah Rivera, founder of the Succession Group, a New York-based executive search and consulting firm. “We’re seeing resumes from private equity funds that have also let some people go.”
Hedge-fund traders with at least 10 years’ experience, who made an average of $580,000 last year, will probably see pay rise 8-9% this year, according to Adam Zoia, founder of New York-based Glocap Search Llc. and co-editor-in-chief of the Hedge Fund Compensation Report. That’s about half of the rate he was expecting before the market’s decline.
The hedge-fund industry, where assets almost tripled to $1.7 trillion since 2002, leads Wall Street when it comes to outsized paydays.
The 25 best-paid hedge-fund managers earned an average of $570 million in 2006, an increase of 57% from the previous year, according to Institutional Investor’s Alpha magazine. Hedge funds typically charge fees of 1-2% of assets and 20% of investment gains.
At the top of Alpha’s list was James Simons, founder of East Setauket, New York-based Renaissance Technologies Corp., who was paid an estimated $1.7 billion. Chicago-based Citadel Investment Group Llc.’s Kenneth Griffin placed second with $1.4 billion.
Officials at both firms declined to comment.
Simons’ personal profit may drop from 2006 as his biggest fund struggles. The $29 billion Renaissance Equity Opportunities Fund is little changed on the year through last week, according to investors, while last year it returned about 21%.
Griffin should again rank among the top-paid managers. Citadel, which oversees $15 billion, has returned about 15% this year, investors say.
“The ripple effects of hedge funds are more widespread than they’ve ever been,” said Robert Discolo, head of hedge-fund strategies at AIG Global Investment Group in New York, which manages more than $8 billion.
Big pay packages at hedge funds and leveraged buyout firms have driven compensation higher at Wall Street firms, as they seek to compete for the best traders and bankers. Last year, the five biggest US securities firms paid about $36.5 billion in bonuses, up 32% from a year earlier as the number of employees rose 7%.
Since last falling in 2002, total bonus payouts at the five firms rose 6% in 2003, 19% in 2004, and 18% in 2005. Securities firms typically set aside about half of their revenue to pay compensation and benefits. Of that, about 60% is paid in bonuses at year end.
Recruiters don’t expect cuts to be as drastic as they were in the bear market of 2001 and 2002, when the average payout for New York-based securities industry workers declined 26% and 18%, according to the state deputy comptroller’s office.
The financial crisis has been profitable for traders who bet mortgage bonds would fall or whose strategies gain amid swings in the markets. One indicator suggests the picture isn’t as dire as it was in 2002. Analysts are estimating annual earnings will rise at least 11% at the top four Wall Street firms. Bear Stearns, the fifth, is expected to report a drop of about 6%.
The bankers who advise leveraged buyout firms and the underwriters, salespeople and traders who help create and sell the loans and bonds to finance them are likely to see their rate of pay increases slow, recruiters said.
Last year, investment bankers saw bonuses jump 20-25%, the Options Group said. This year the rate of gains for bankers who serve buyout firms will probably slow to 5-10% and could decline further, it said.
That’s because the banks are having difficulty selling the loans they’ve already made to finance takeovers and the pace of deals is likely to slow amid higher financing costs.
The success of hedge funds in previous years helped generate demand for prime brokerage, the departments at investment banks that lend to hedge funds and provide them with services such as trading software. Last year, bonuses surged 20-25% in prime brokerage, Options Group estimated. This year they may rise 5-10%.
Katherine Burton in New York contributed to this story