By Dawn Kopecki and Christine Harper on Bloomberg:
The Wall Street bonus, considered a sacred ritual, may become the industry’s biggest casualty as governments worldwide bail out financial institutions.
UBS AG was told to reduce bonuses after the Swiss government gave the country’s biggest bank a $59.2 billion lifeline. Bank of America Corp. is under pressure to scale back payouts after New York Attorney General Andrew Cuomo subpoenaed executives earlier this week for information on compensation and President Barack Obama said just yesterday that bonuses handed out by banks represent “the height of irresponsibility.”
The current system of “asymmetric compensation,” in which people are rewarded when they do well and aren’t required to return the rewards when they lose money, is detrimental to society and needs to change, said Nassim Taleb, a professor at New York University and author of “The Black Swan: The Impact of the Highly Improbable,” in an interview.
The worst economic crisis since the Great Depression, a $700 billion taxpayer bailout in the U.S. and the demise of three of the biggest securities firms -- Bear Stearns Cos., Lehman Brothers Holdings Inc. and Merrill Lynch & Co. -- didn’t deter investment banks from offering year-end rewards to employees on top of their salaries.
Financial companies in New York City paid cash bonuses of $18.4 billion last year, the sixth-most in history, even as they posted record losses, according to data compiled by the office of state Comptroller Thomas DiNapoli. The payouts are split among everyone from managing directors to secretaries.
Drain the Pool
“We won’t arrive at a situation where there are no bonuses,” Stephen Green, chairman of HSBC Holdings Plc, said at a press conference in Davos today. “There are always parts of companies that are profitable, and if somebody’s been working in a profitable business in a market where bonuses are a normal part of compensation, it’s difficult sometimes to say you won’t have any bonuses in that business.”
NYSE Euronext Chief Executive Officer Duncan Niederauer said today in Davos that “some compensation models need to be completely overhauled.” He added that this would be difficult to legislate and companies will have to take the lead.
“While a number of people clearly do create wealth by brain power, by use of the company’s balance sheet and by other resources, other people have been receiving incentives for basically turning up,” Barclays Plc Chairman Marcus Agius said at the World Economic Forum. “That I don’t think is very smart. An incentive system properly designed and fairly calibrated is absolutely fundamental.”
Credit Suisse Group AG’s investment bank decided last month to reduce the risk of losses from about $5 billion of its most illiquid loans and bonds by using them to pay employees’ year-end bonuses.
The Zurich-based company’s leveraged loans and commercial mortgage-backed debt will fund executive compensation packages. The new policy applies only to managing directors and directors, the two most senior ranks at Credit Suisse, according to a Dec. 18 memo sent to employees.
Credit Suisse, along with New York-based Morgan Stanley and UBS, also have added so-called clawback provisions that set aside portions of workers’ bonuses that can be recouped in later years if an employee leaves or is found to have behaved in ways that are harmful to the company.
Subpoena for Thain
Zurich-based UBS cut its 2008 bonus pool by more than 80 percent to less than 2 billion Swiss francs ($1.75 billion) after the company was forced to accept government funds in October. Chief Executive Officer Marcel Rohner, his 11 colleagues on the executive board and Chairman Peter Kurer won’t get any variable pay for last year.
Former Merrill Lynch CEO John Thain was asked this week by the New York attorney general’s office for information about payouts made before the largest brokerage firm was acquired by Charlotte, North Carolina-based Bank of America. The U.S. Treasury agreed earlier this month to provide $20 billion of capital and $118 billion in asset guarantees to Bank of America, the country’s biggest mortgage lender, to help absorb losses at New York-based Merrill.
Wall Street firms need to “show some restraint and show some discipline,” Obama said yesterday, with Treasury Secretary Timothy Geithner and Vice President Joe Biden at his side.
Obama’s team is drafting a package of measures to address the credit crunch and details may be announced next week, people familiar with the matter said. Geithner met over the past two days with Federal Reserve Chairman Ben S. Bernanke, Federal Deposit Insurance Corp. chief Sheila Bair and other regulators to work out the plan.
The initiative may feature a concerted effort to remove toxic assets that clog lenders’ balance sheets. The FDIC probably will run a so-called bad bank to take on some of the securities; others will be insured by the government against losses while remaining on lenders’ books, the people said. Further capital injections for the biggest banks also are under consideration.
Senator Banking Committee Chairman Christopher Dodd vowed yesterday to use “every possible legal means to get the money back.” The Connecticut Democrat plans to summon executives whose companies received taxpayer aid to testify before his committee and explain their bonuses.
“You’re never going to get any support for the continued tough decisions we have to make if this kind of behavior continues,” Dodd said. “We can’t be underwriting to the tune of billions of dollars, whether it was used directly or indirectly. This infuriates the American people.”
The Treasury Department has injected about $200 billion into banks across the country through its Troubled Asset Relief Program. Banks and financial companies have eliminated 265,000 jobs in less than two years.
Charles Elson, director of the University of Delaware’s John Weinberg Center for Corporate Governance, said it would be “very difficult” for the Treasury to recoup bonuses.
“Usually these bonuses were contractually made and paid out based on a formula unless you can show bad faith, some intentional misconduct,” Elson said. “These are situations where monies were paid under a contract, and the worst you can accuse these people of is making very bad decisions.”
People such as Robert Rubin, who received more than $100 million while serving as chairman of New York-based Citigroup Inc.’s executive committee, should be punished for their failure to understand the risks their institutions were taking, said Taleb, author of “The Black Swan.” A spokesman for Rubin declined to comment.
“These people make excuses, after the fact, saying that nobody saw it coming and that you couldn’t predict it,” Taleb said in an interview. “That’s no excuse. If you know there are storms, don’t fly. And if you fly, fly with someone who knows about storms.”
Unless Rubin and others are required to return their bonuses or are punished in some way, Taleb said a regrettable system emerges “where profits are privatized and losses are nationalized.”
Treasury has the authority under legislation that created TARP to issue regulations that claw back excessive executive compensation, and that may give the administration some authority to go after excessive pay, said Larry Hamermesh, a corporate law professor at Widener University in Wilmington, Delaware.
“It was pretty clear from TARP that the secretary of the Treasury was supposed to establish a provision for executive claw-back,” Hamermesh said in a phone interview. “How the secretary has implemented that isn’t clear.”
The Treasury could require companies that request additional funds to repay excessive bonuses as a condition of the further financing, Hamermesh said.
“If they come around to ask again, they could say, ‘We’re going to deny it unless they cough up the bonuses,’” he said.