Brokers did well in a bad 2007
It was a bad year to be an investor, but a great year to be a broker.
Wall Street’s five largest investment firms paid record amounts of compensation in 2007, despite the fact that three of the five firms posted quarterly losses as the result of souring investments in sub-prime mortgages.
Goldman Sachs Group Inc., Morgan Stanley, Merrill Lynch & Co., Lehman Bros. Holdings Inc. and Bear Stearns Cos. shelled out $65.6 billion in compensation and benefits last year, up about 8% from last year.
Experts estimate that 60% of that cost is from year-end bonuses -- an expense that some investors found particularly galling in light of the tremendous losses they suffered. Goldman Sachs and Lehman Bros. were the only two of the powerhouses that did not post a loss for the most recent quarter.
“Merrill Lynch’s appalling failure to manage risk destroyed 43% of the firm’s value in one year and contributed to a broader crisis of confidence now afflicting the financial markets,” said William Patterson, executive director of CtW Investment Group. “This is a bad year to be paying big bonuses.”
Ed Durkin, director of corporate affairs for the United Brotherhood of Carpenters, which has become an activist investor on behalf of members’ pension plans, agreed: “Even in good years, it’s hard to justify Wall Street salaries because they are so over the top. Any increase in a year like this is indefensible.”
Bloomberg News estimated that year-end bonuses paid to the 185,687 employees of the big five firms averaged $211,849 -- about four times the average household income in the U.S.
Total compensation averaged $353,089 per employee, according to the Bloomberg analysis.
These figures largely reflect the pay of the brokerage firms’ sales forces and middle managers. Most firms have not yet issued annual proxy statements detailing the pay of top executives.
Merrill Lynch, which reported a $9.8-billion quarterly loss Thursday, said its compensation costs rose 6% year to year because the company grew and some segments were profitable.
“Increased compensation costs are largely related to acquisitions and head count growth, ongoing investment in technology and increased performance by our financial advisors,” said Jessica Oppenheim, a Merrill spokeswoman.
Merrill did not break out how much of its higher compensation costs were in bonuses. Compensation experts, however, say it would not be unusual for some bonuses to rise as earnings sink.
“The firms that are in trouble may have to spend greatly to hold on to their stars,” said Brian Foley, a compensation consultant from White Plains, N.Y. “It’s just a question of how much they take it out of other people’s hides.”
At the same time, several brokerage firms have announced that their chief executives would forgo annual bonuses this year because of their firms’ poor financial performance.
The chief executive of Jefferies Group, a mid-size New York brokerage, said last week that he had asked his compensation committee to skip his 2007 bonus and take back restricted shares that he’d already earned. He said he wanted to use the money to pay the rank and file better.
“We have chosen to do this because we believe it is important to compensate competitively our most important assets: our people,” said Richard B. Handler, chairman and CEO, in a statement. “If we are asking our shareholders to make this investment for the long-term success of Jefferies, we should put our money where our mouth is and pay our fair share.”
Part of the bonus largesse was attributed to a year that produced record profits in some segments and record losses in others.
The vast majority of brokerage firm losses were blamed on securities tied to sub-prime mortgages.
Though divisions selling and investing in these securities accounted for a relatively small portion of the Wall Street workforce, they accounted for all of the losses, said Alan Johnson, a compensation consultant with Johnson Associates in New York.
“This year, 5% of your business lost you 100% of your income, but the rest of your business did well and you have to pay those people,” he said.
The market volatility on Wall Street last year also played a role, noted Ike Suri, managing director of an executive search firm specializing in financial services.
Those huge market swings were driven by big increases in trading volume. And when more securities are sold -- regardless of whether the prices are up or down -- the brokers who sell them earn commissions.
“Compensation in the brokerage industry is increasingly tied to volatility -- so the more volatility in the markets, the more investors are trading and the more they make,” Suri said. “In 2007, the marked increase in volatility in the second half of 2007 really benefited the brokers.”
But the Gilded Age may well be over.
“This is part of the cycle. It’s boom/bust. We are going into the bust,” said Jim Reda, founder of James F. Reda & Associates, a New York compensation consulting firm. “This is a super-bust. Just like the forest has to regenerate itself after a fire, this industry is going to have to regenerate itself after the sub-prime disaster.
“I don’t think there is a corollary to the scope of this in my lifetime,” he added. “I think it’s going to take a couple of years.”
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