Banking: Ahead in the clouds
By Megan Murphy, Patrick Jenkins and Justin Baer
Published: March 14 2011 20:29
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| Bank towers at Canary Wharf in London. Industry chiefs say their groups lose revenue if good staff defect to more generous rivals |
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When Barclays revealed last week that Bob Diamond was the UK’s highest-paid bank boss on a salary and bonus of £6.75m ($10.88m) for 2010, the only real surprise was that the figure was lower than predicted. The smooth-talking American who took over as chief executive in January, having spent 15 years building up the group’s investment banking division, has long been a lightning rod in Britain for criticism of bankers’ pay.
More shocking was that Mr Diamond, whose 2010 earnings were about 260 times the average UK income, is now only Barclays’ fourth best-paid executive officer. Two of his top lieutenants, Jerry del Missier and Rich Ricci, took home more than £40m each in salary, bonus and share awards. The average pay cheque for the bank’s 230 most senior staff was £2.4m.
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Across the Atlantic, where scrutiny of pay is less intense, total Wall Street pay was up 6 per cent last year, with an average cash bonus of nearly $130,000, according to the New York state comptroller’s office.
Across the Atlantic, where scrutiny of pay is less intense, total Wall Street pay was up 6 per cent last year, with an average cash bonus of nearly $130,000, according to the New York state comptroller’s office.
More than two years after the depths of the financial crisis, banks are grappling with profound regulatory changes to the levels of capital they must hold as a buffer against systemic shocks; restrictions on the markets in which they are permitted to function; and questions about which business lines will remain sufficiently profitable to operate.
But the model of paying extraordinarily high sums remains largely intact. This is in spite of public and political outrage at a practice blamed by some for exacerbating the crisis; but also in spite of the sector’s declining profitability in the past year.
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“It’s fair to say that nothing has really been done about the main problem ... whether your average banker deserves to get paid this much,” says Professor Chris Roebuck of London’s Cass Business School. “The problem has just been slightly rearranged.”
The gap between the earnings of bankers and other professionals has long been sizeable. Today, however, banks’ resistance to a radical overhaul of a system that they concede allows even mediocre performers to earn vast sums makes it easy to accuse them of simple greed.
“Financial pay relative to average pay for similar levels of skill soared in the period of 1920s’ financial intensity, fell away entirely in the period of ‘financial repression’ from 1935 to ’75, but then grew again – and indeed exceeded 1920s’ levels – from 1980 onwards,” Lord Turner, chairman of the UK Financial Services Authority, said in a recent speech at Cambridge university. “But popular awareness and resentment only became acute in the wake of the financial crisis, and of the taxpayer-financed bank rescues.”
Indeed, since the crisis, the gap has widened dramatically. Pay per employee at Goldman Sachs, UBS, Credit Suisse, Deutsche Bank and Morgan Stanley – five of the world’s biggest investment banks – averaged $403,000 in 2010, according to research by Evolution Securities.
That is about 10 times the average US and UK income of $40,000 – in theory a far higher premium than should be necessary to attract people to work in the sector, economists say.
Of course, the sector has experienced explosive global growth in the past three decades, and logically bonuses – the most contentious component of bankers’ pay – should track its fortunes. Among the high earners are “star” traders and bankers who bring in huge multiples of their pay in the form of client revenues.
But is there a broader economic justification for paying bankers so much more than public servants such as teachers, police officers and doctors?
Sir Philip Hampton, chairman of Royal Bank of Scotland, has held senior positions in a variety of industries and been critical of bankers’ pay in the past. Nonetheless, he says the principles underpinning the sector’s remuneration structures are sound.
“There is a big objective reason why you pay people the way you do in banking: this is a serious professional job where people handle almost unimaginable amounts of money,” he says. “Many banks will have balance sheets worth more than £1,000bn. That means that a single individual could be responsible for, say, £50bn of assets.
With that proximity to such large sums, you want to make sure that your money is being properly looked after.” He argues that poor oversight, rather than flaws in the pay model, was to blame for failures to safeguard money in the run-up to the crisis.
The industry’s inflated pay levels extend beyond bankers and traders, however – arguably another failure of the model. A global salary survey by Robert Walters, a recruitment consultancy, reveals higher pay at almost every level. Office managers receive a premium of 15 per cent; information technology specialists, up to 30 per cent. This drives up overheads in an industry where overall costs typically eat up 65-80 per cent of revenues.
Bankers claim they are caught in a fierce global battle for “talent”, making it impossible for one institution or even one market unilaterally to lower pay. The argument is simple – industry professionals are highly mobile individuals who are in demand in financial centres across the world, from London and New York to booming Asian cities. Banks that pay even a fraction less than the going market rate will lose their best performers to rivals, which then rapidly gain their market share.
Look at UBS, bankers say. Under pressure from Swiss regulators, it cut its bonus pool by more than 80 per cent at the height of the crisis and lost thousands of staff, nearly crippling the group.
At the UK’s RBS, where the subject of pay is particularly contentious because taxpayers took an 84 per cent stake in it during the crisis, Stephen Hester, chief executive, estimates he lost 1,000 leading bankers to higher-paying rivals last year, at a cost to the bank of up to £1bn in lost revenues.
The absence of far-reaching legislation to overhaul pay in spite of strong public appetite on both sides of the Atlantic suggests bankers have succeeded in convincing politicians that a more draconian crackdown – such as specific caps on bonuses – could damage their financial centres irreparably.
In the UK, high street icons such as Barclays and HSBC routinely threaten to leave if the government hardens its stance. Monday’s calls by the opposition Labour party for a repeat of last year’s bank bonus tax are likely to go unheeded.
Senior bankers in the US have taken to warning that curbs on pay are fostering the growth of the “shadow banking” system – hedge funds and private equity groups not subject to oversight.
Chastened, perhaps, by the industry’s well-financed lobbying and politicians’ failure to take tougher action, regulators have dodged the crucial issue of how much bankers earn.
Instead, they have tinkered at the system’s edges. In the main, they have attempted to limit the excessive risk-taking that led to the crisis by trying to align pay more closely with banks’ long-term financial health, as opposed to short-term profits.
In Europe, for example, regulators have limited the cash component of senior bankers’ bonuses to as little as 20 per cent, with the rest paid out mostly in share-based awards over several years.
US regulators, meanwhile, have proposed broadly similar if less stringent rules, requiring senior executives to defer half of their bonuses for three years and putting in place special measures for employees that take on higher levels of risk.
At most leading investment banks, such changes have caused irritation and expense, as executives try to reconcile the rules of different jurisdictions, rather than a wholesale rethink of pay practices.
But this does not mean remuneration will remain at today’s buoyant levels for ever, or even for the next few years. If there is significant downward pressure on pay – and senior bankers insist there is – it stems not from direct intervention by authorities.
Rather it is the indirect effect of more stringent capital requirements and a crackdown on some of the riskiest business lines – and the most profitable – such as proprietary trading, in which institutions trade with their own funds.
Leading bankers in Europe and the US have repeatedly warned that investment banking will become a much less glamorous business over the coming decade. Many have sought to temper shareholders’ expectations on profitability, reducing annual return-on-equity targets from 25-30 per cent before the crisis to 15 per cent or lower. Bank investors, who were noticeably quiet about big pay-outs during the boom years, are likely to demand much tighter cost controls and a higher slice of pre-bonus profits as returns drift downward.
The shift of resources and people into less volatile businesses such as asset management will also contribute to the downward drift in banks’ overall pay levels. So too will the migration of jobs to emerging markets and the industry’s increased dependence on technology.
If taking on ever greater trading and credit risk helped inflate pre-crisis revenues, profits and therefore pay, paring back risk should have the opposite effect. “You’ll have to see compensation come down,” says Robert Profusek, a partner at the law firm Jones Day, who has advised the boards of financial services companies on their pay schemes. As a result, he says, “you’re going to see talent move into non-regulated environments”.
The loss of staff to shadow banking, where leading professionals can earn billions a year rather than millions, is already picking up steam, say many.
One European investment bank head says his institution is now able to hire only about 60 per cent of the people it wants each year, compared with 80-90 per cent before the crisis.
But with bank pay levels having largely withstood the greatest financial crisis in a generation, doubts persist as to whether they will in fact obey more standard market forces in coming years.
Bank heads who see high pay as a cost of doing business are likely to find it easier to slash jobs and entire business lines than risk an internal revolt over bonuses.
Even big names from the banking industry are convinced that declining profitability will spur shareholders to demand a fairer share of the spoils.
“In future, banks are likely to come under more pressure to deliver returns measurably above their cost of capital,” says Bill Winters, former co-head of investment banking at JPMorgan Chase, now an asset management entrepreneur. “Investors will demand that a high proportion of pre-bonus profits are distributed to them.”
A short-lived anonymity
Jerry del Missier and Rich Ricci, the co-heads of Barclays investment banking division, have their former boss to thank for the public disclosure of their huge pay-outs last week, writes Megan Murphy.
The two bankers raked in more than £90m in salary, bonuses and share-based awards between them. They were among five executives whose pay was revealed by the bank as part of a “peace deal” with the UK government known as Project Merlin.
The five were not named in the bank’s remuneration report – where they were referred to instead as “individual 1” and “individual 2”. But the simultaneous release of a UK stock market announcement detailing their share sales made it easy to match the names up.
John Varley, Barclays’ former chief executive, was instrumental in keeping the Merlin deal alive in recent months, leading the banks’ tortuous negotiations with the government before a pact was finally struck in mid-February. At the time, the general consensus was that the agreement had failed to deliver many meaningful concessions from the UK’s leading banks. In exchange for moving on from “banker-bashing”, the government extracted promises for a modest increase in lending to small businesses and a much vaguer promise to limit bonuses.
Less noticed was that Barclays, Royal Bank of Scotland, HSBC and Lloyds also agreed to reveal the salary and bonuses of their five highest-paid senior executive officers, on an unnamed basis, alongside that of their executive directors.
The scale of the pay-outs revealed in Barclays’ remuneration report – not only to Mr del Missier and Mr Ricci but to three other executives, each of whom was awarded more than £5m – shows how important it was for Mr Varley to focus the Merlin agreement on lending and small business support rather than on bonus restraint.
Barclays’ experience also shows that it is going to be very difficult for any bank to keep the names of those five executives secret. RBS, which last week revealed that it paid £28m worth of share awards to nine of its senior staff including Stephen Hester, chief executive, has already privately told journalists that they will be able to use previous stock market announcements to finger its “unnamed” officers.
As for Mr del Missier and Mr Ricci, Barclays insiders insist that their pay will come down in coming years – now that it has to be disclosed.
Jerry del Missier and Rich Ricci, the co-heads of Barclays investment banking division, have their former boss to thank for the public disclosure of their huge pay-outs last week, writes Megan Murphy.
The two bankers raked in more than £90m in salary, bonuses and share-based awards between them. They were among five executives whose pay was revealed by the bank as part of a “peace deal” with the UK government known as Project Merlin.
The five were not named in the bank’s remuneration report – where they were referred to instead as “individual 1” and “individual 2”. But the simultaneous release of a UK stock market announcement detailing their share sales made it easy to match the names up.
John Varley, Barclays’ former chief executive, was instrumental in keeping the Merlin deal alive in recent months, leading the banks’ tortuous negotiations with the government before a pact was finally struck in mid-February. At the time, the general consensus was that the agreement had failed to deliver many meaningful concessions from the UK’s leading banks. In exchange for moving on from “banker-bashing”, the government extracted promises for a modest increase in lending to small businesses and a much vaguer promise to limit bonuses.
Less noticed was that Barclays, Royal Bank of Scotland, HSBC and Lloyds also agreed to reveal the salary and bonuses of their five highest-paid senior executive officers, on an unnamed basis, alongside that of their executive directors.
The scale of the pay-outs revealed in Barclays’ remuneration report – not only to Mr del Missier and Mr Ricci but to three other executives, each of whom was awarded more than £5m – shows how important it was for Mr Varley to focus the Merlin agreement on lending and small business support rather than on bonus restraint.
Barclays’ experience also shows that it is going to be very difficult for any bank to keep the names of those five executives secret. RBS, which last week revealed that it paid £28m worth of share awards to nine of its senior staff including Stephen Hester, chief executive, has already privately told journalists that they will be able to use previous stock market announcements to finger its “unnamed” officers.
As for Mr del Missier and Mr Ricci, Barclays insiders insist that their pay will come down in coming years – now that it has to be disclosed.
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Copyright The Financial Times Limited 2011.
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