Wall Street's 'compensation season' is approaching, and it's not looking good
Here's some news: Although final results of OptionsGroup's 2017/18 compensation report will not be available until November we already forecast a decline in total compensation pools for many of the world's major banks. Again. The only question is by how much.
Our annual report forecast total compensation-base salary plus cash and noncash bonuses-for the top 25 percent of investment professionals across a wide variety of functions, from investment banking, capital markets, sales and trading to information technology and risk management. For the past eleven years our reports have shown the compensation of bank employees steadily declining in absolute terms.
Downward pressure on compensation is not directly a function of the big geopolitical events that preoccupy the financial press, such as Brexit or the US presidential election. Certainly such headline-grabbers contribute to an atmosphere of uncertainty in the industry. But rather than being driven by specific news events, the shrinkage in pay packages manifests long-running challenges to financial firms-specifically, regulatory upheaval and disruptive technologies.
In fact, the only thing that hasn't changed about bankers and the way they get paid is conventional wisdom.
Conventional wisdom solidified in the financial crisis of 2008. Regulators still act from a conviction that bank employees enjoy bonuses that are multiples of their annual salaries even as they continue nurturing a culture of excessive risk-taking. Far from being lavish in their compensation practices, the trend line of our reports shows that in recent years most international banks have frozen base salaries. Between 2011 and 2015 almost all tier-one investment banks reported substantial reductions in their compensation-to-net-revenue ratios.
It is a trend corroborated by OGiQ, our firm's market intelligence strategy and benchmarking arm.
OGiQ has found that compensation for global markets professionals (fixed income, equities and investment banking) has declined, on average, 30 percent to 50 percent.
At the world's major banks we find disconnection between performance and pay. Most compensation committees now split variable compensation into upfront and deferred components. This means that, generally, the more senior and highly paid an employee the greater the deferred proportion of their variable compensation.
At a few banks senior managers and what the European Banking Authority calls "material risk takers" are limited to a maximum upfront award of 60 percent of variable compensation, usually 50 percent cash and 50 percent equity. The remaining deferred component (a minimum of 40 percent) is paid half in restricted cash (vesting equally over at least four years) and half in restricted equity (with vesting periods contingent on an employee's level).
For many other employees, upfront awards are commonly paid 100 percent in cash. Deferred awards are split equally between restricted cash and restricted equity, vesting in equal installments typically over three years.
If banks are showing caution in their compensation planning, top talent is responding with caution of its own. Every day we see candidates who are wary of switching firms for an increase in salary in a business where headcount reductions are a recurring headline. The high base salaries of so-called "non-producing" managers put them at particular risk of being laid off.
For every rule there are exceptions. For example, ten years of attrition among financial-services firms has resulted in empty seats that must be filled immediately. These essential replacement hires typically command premium compensation.
Technology also plays a significant role in transforming the talent landscape at the world's big banks. Ten years ago, technology was viewed as an operational issue. Today it is understood to be the best available opportunity to grow market share, identify new ideas, improve efficiency and grow the top line. That creates two significant talent hurdles: paying (and retaining) existing employees who have been left with more work and less support while poaching technology talent from tech giants with large, less restrained budgets.
Firms, meanwhile, have extended promotion cycles and reduced promotions, increasing the value of elevated titles. We have observed junior professionals, for instance, switching firms for an increase in title with little or no pay improvement solely for the eventual income bump that an inflated title promises.
To paraphrase Winston Churchill, this is not the end of eye-popping pay packages in the banking business, nor even the beginning of the end. But it is the end of the beginning. The industry has changed so dramatically in the past ten years that the downward trend in compensation is here to stay, with all that means for banks, their shareholders and the talent they hope to employ.
Richard Stein is a partner and chief growth officer at Options Group, a leading executive search and strategy firm. He is based in New York and London.