Rewarding failure? The lack of transparency in fund manager pay deals

Fund manager pay 620

Research carried out by Money Marketing reveals a lack of transparency about how fund managers are paid, and whether incentives match up with client interests.

Several fund groups have taken steps to move to more “investor-friendly” pay structures but a lack of clarity remains on whether fund performance is the real driver behind pay.

Out of 28 asset management firms contacted, only seven provided information on the way their pay structure works.

Ahead of the FCA’s study into asset management, Money Marketing examines what more can be done to better align fund manager pay with their client interests, and against the backdrop of pressures on margins, regulatory costs and the threat of outflows, how fund manager pay is set to evolve.

The results

Fidelity International says fund managers are paid a basic salary with the potential for a bonus based on the performance of their funds over three and five years. Bonuses are also based on an assessment of the level of the risk taken, as well as assets under management.

Columbia Threadneedle Investments says performance is “ major factor” when it comes to pay, alongside “the appropriate risk and control management” taken by fund managers.

Performance, at both an individual and team level, is judged relative to each fund’s benchmark and or peer group targeting on a one, three and five-year basis, with a bias towards three and five-year performance.

Assessment of performance also takes into account other fund manager objectives such as  support for sales and client accounts, and “his or her demonstration of the company’s values”.

Old Mutual Global Investors says fund manager incentives are linked to a combination of profit, non-financial metrics such as conduct and customer service, and investment performance.

Aviva Investors claims its pay structure discourages risk-taking, saying: “Variable pay is discretionary, performance-related and fully flexible, based on a combination of individual, business unit, Aviva Investors and group performance, including risk assessments, and is subject to malus [penalty policies] and clawback.”

No fund group provided details on what percentage of the overall bonus comes from performance and what proportion is long or short-term.

Fund group Pay and bonus structure
Fidelity International

Basic salary plus bonuses based on 3 to 5 years performance

Other incentives: Bonus earned on level of risk taken and fund’s AUM

Columbia Threadneedle Investments

Remuneration driven by performance, with a bias towards 3-5 year investment performance in order to incentivise delivery of longer-term performance, also takes into account support for sales and client accounts and demonstration of the company’s values.

Part of award is deferred into the Threadneedle Fund Deferral Programme.

Other incentives: support for sales and client accounts, demonstration of the company’s values

Franklin Templeton Compensation on long-term performance investments and not on asset flows
Old Mutual Global Investors

Compensation linked to a combination of profit, non-financial metrics and investment performance

Other incentives: Deferrals in OMGI funds and/or parent company shares

 Schroders

Portion of compensation deferred over shares and Schroders funds

Deferred compensation is only applied after three years continued employment

Compensation reviewed annually

 Aviva Investors

Pay is discretionary, performance-related and fully flexible, based on a combination of individual, business unit, Aviva Investors and group performance and is subject to malus and clawback

 Woodford Investment Management No annual management fee for its trust and will not get paid if managers do not meet the performance target that the fee is set against

Source: Money Marketing research

Notes: 28 fund groups contacted in total. Those who declined to respond: M&G, Miton Group, Neptune, Hermes, Canada life Investments, EdenTree. Those who were unavailable for comment/ did not respond to request for information: JP Morgan, Aberdeen, Alliance Trust, Barings, Jupiter, Liontrust, Rathbones, Axa IM, BlackRock, Pimco, Lazard, GAM, Artemis, Barclays Wealth and IM

Evolving pay deals

Cass Business School asset management chair Professor Andrew Clare says the fact that even a small clutch of asset management firms revealed their remuneration packages at a high level is positive.

He says: “Few companies have to reveal pay structures to the outside world.  This is normally a private matter so we shouldn’t necessarily expect an asset manager to reveal the pay structure.  The very fact that some are willing to reveal this – even at a high level – is encouraging.

“I suspect the industry’s pay structures will evolve to include more delayed payments and to become better aligned with investor interests over time. It seems to me some of these companies are probably leading the way in this area.”

In a recent report, PwC predicted fund managers pay will not increase at the same rate as asset under management. It also expects compensation for asset managers as a percentage of revenue to fall to 35 per cent by 2020 from a high of 45 per cent.

PwC says there will be a greater focus on non-financial incentives to retain and motivate talent, as pressure on costs and rising standards of transparency will make traditional approaches to staff retention “more challenging”.

Last month Miton Group announced it will introduce a remuneration structure “better aligned to current market practice” following the departure of star fund managers George Godber and Georgina Hamilton in April.

It said the current fund manager retention and incentive arrangement will be discontinued and the new model will not include the issuance of Miton shares.

Tilney Bestinvest managing director Jason Hollands says: “Godberg and Hamilton went to Polar Capital which has a true multi-boutique model. Fund managers there have a share in the business, and a ‘federation’ of investment teams with autonomy in the investment process.

“That remuneration model works well if you do well and your performance is good so it is not for everyone, that is why a boutique like this appeals to fund managers who are confident.”

He says small boutiques like Miton should avoid relying too much on star managers for their revenues and profits.

Fairer Finance managing director James Daley says: “For a long time fund managers have been well rewarded regardless of performance but with more regulation coming from Europe basic salary – not bonuses – will rise and that is bad news for them.”

Clear objectives?

Franklin Templeton, which bases pay solely on long-term performance, says each of their funds has a clear objective. For example, its UK Managers’ Focused fund aims to achieve a total return exceeding that of the FTSE All-Share Index, over three or five years.

An industry insider, who wished to remain anonymous, says: “The fund is only promising to beat the index, but not telling you by how much. That is not a clear objective. The ongoing charge figure is 0.84 per cent so it is costing you 10 times as much as an All-Share tracker.”

Gbi2 managing director Graham Bentley says as fund objectives are “rarely specific” often other factors come into play in terms of pay rewards.

He says: “There is rarely a commitment to outperform a benchmark index, and indeed many funds’ benchmarks are merely their own sector average.  Consequently where remuneration is linked to benchmark, it may still reward negative returns.

“Peer group reference points may not be publicly understood; the peer group may be the respective funds’ entire sector, but it may also be a small number of funds deemed to be ex-ante competitors.  Excess returns generated by luck, or the errors of competitors, may therefore have a strong influence on rewards.”

Bentley also notes “long-term performance” is rarely defined among fund groups.

He says: “Beating the index over a five-year period may only require one exceptional year.  Many managers have a tenure of less than five years. For example, more than a third of managers in the UK All Companies sector have a tenure of less than three years, and almost half less than five years. Does this mean none of them get a bonus?”

Deferrals

Several fund groups choose to defer awards to reflect the long term nature of the business.

Fidelity says fund managers are “invited” to invest their own cash in the shares of Fidelity International’s parent company at full net asset value.

It says: “We do not grant stock options or give shares in the company as ‘golden hellos’ or ‘golden parachutes’. All our shareholders use their personal savings to invest in the business.”

Bentley says where bonus deferrals are put in place to encourage retention, some of these have little impact as “the money was never received in the first place”.

He says: “Some fund groups have a clawback mechanism in place, where fund managers are ‘loaned’ bonus that is then earned over a subsequent period.  Short-term performance that is proved to be a flash-in-the pan, then requires any bonus received to be repaid.  This does tend to focus the mind.”

Overall, Daley says a lot of performance fee structures work for the short-term and that should be discouraged.

He says: “I am comfortable with fund managers if they outperform consistently for at least five years so I wouldn’t mind if they get rewarded an astronomical amount. But fund managers should only get paid if they outperform, otherwise the firm get to win regardless.”

Woodford Investment Management has no annual management fee for its Patient Capital Trust and will not get paid if it does not meet performance targets.

It receives a fee when the trust delivers compound annualised returns above a hurdle rate of 10 per cent. The fee will be equal to 15 per cent of any excess returns over the hurdle rate a year.

A high watermark set up by the firm also prevents a fee being paid following a period of underperformance.

Next steps

One clear example of fund manager pay deals came to light recently with M&G star fund manager Richard Woolnough, who was paid £32m between 2013 and 2015 despite his Optical Income fund seeing outflows of £10bn a year ago.

Woolnough’s fund attracted over £12bn in assets and returned 13 per cent, versus 9 per cent for the sector over the two-year period .

Bentley estimates M&G earned around £90m additional revenue as a result, with the star manager likely to have a stake in that.

M&G and its parent company Prudential were reportedly going to cap Woolnough’s bonus in March. M&G could not confirm whether Woolnough’s bonus will be capped or not.

In February, the Bank of England and the FCA declined to extend the European Banking Authority’s proposal to cap bonuses for fund managers. The Investment Association welcomed the decision.

Daley says: “I hope the IA will work on this but I don’t think we’ll see pay structures change. The FCA is looking at the asset management sector now but I doubt they’ll get too involved with remuneration.”

In the FCA study, which will be published in the first half of next year, the regulator will be looking at whether investors can monitor costs and quality for services paid for out of a fund and how product costs as well as the timing of information is presented, including, for example, the availability of benchmarks.

Outside the study, an FCA spokesman said the regulator currently has “no plans” to look in detail at fund manager pay structures.

Expert view: Oliver Parry

Failure to align pay with the long-term is unacceptable

There is an argument among fund managers that they need to be more transparent both in terms of how they allocate money, resources, fees they charge and obviously what they earn.

For some of the fund managers listed on the main market, you can see their annual reports and you can see what the chief executives earn, but you have no indication of what the fund managers on the trading floor actually earn. There are some star fund managers in the UK and typically they can earn £20m or £30m a year depending on how well the funds perform. But more broadly speaking, we have no idea.

There is a need for fund managers to directly deal with their clients on pay incentives so the client can be assured where the money is invested. The incentivisation structure is more important than a single salary figure because most fund managers now are supposed to be investing for the long term and engaging with companies on a long-term interest so presumably their targets are going to be based on these long-term performance targets.

If it is not the case, then there is a breakdown in the investment chain which will not be acceptable to many people.

It is important to say it is a difficult job being a fund manager. They are subject to a lot of targets and pressure from the boards, but the ultimate asset owners at the bottom of the investment chain want to know the kind of incentives firms operate under.

Fund objectives are normally quite explicit but you need to do a lot of digging for that information. Schroders are one of the most transparent fund managers in the UK in terms of how they operate in their investment culture. They have a very strong stewardship culture properly integrated with the actual fund manager. That is a good sign as it shows its approach is to implement a long-term investment strategy.

Oliver Parry is head of corporate governance policy at the Institute of Directors

Adviser views

Lloyd Thomas-Darren-2013

Darren Lloyd Thomas

Managing director

Thomas and Thomas Financial Services

Within the active management space we have to be prepared for results, so as long as these come in I don’t mind how fund managers get paid. Sometimes the focus is how to perform and get value for clients. We get hung up on charges but as long as you get positive results that is what matters.

Martin Bamford

Martin Bamford

Managing director

Informed Choice

There is a general perception that fund managers get paid too much but we seem to be moving forward towards more transparency in the way they earn their bonuses. I believe there is going to be some pay squeeze when people start asking where this excessive money is going. If a fund we recommend is doing great we do not really worry about the pay structure, but if it does not perform, we will start questioning.