Can new rules on curbing the pay of fund managers better align their interests with those of investors or will it prove to be just another regulatory burden?
Policy-makers from EU member states recently announced planned curbs to fund manager pay that could be brought in as early as 2015 as part of the Ucits V directive. These new rules will affect mutual funds in Europe’s €6tn (£4.95tn) investment industry but will not be applied to hedge funds or private equity investors because they are governed by different regulations.
Crucially, the new pay rules see fund managers avoid the bonus cap that was brought in for the banking industry, which must now restrict bonuses to the level of an employee’s salary.
Instead, policymakers agreed on a plan to introduce a 40 per cent deferral of fund manager bonuses for three years. Investment managers will also be required to invest half of their bonuses in their own funds.
The deal is awaiting formal sign-off in the next few weeks, after which EU member states will have up to 18 months to introduce the new law.
But while some industry experts welcome the decision not to bring in bonus caps, there are questions as to whether these alternative measures differ enough from current pay arrangements to have any real impact on UK fund groups.
Turcan Connell chief investment officer Haig Bathgate believes agreeing not to cap bonuses was the right move, arguing that a bonus cap could have risked the stability of the industry. He says: “Generally our preference is for managers to have a higher variable element to reward and a lower base salary. We therefore do not agree with the original bonus cap proposals which would have almost certainly pushed up base fees in funds generally, increased the cost base and thereby threatened the stability of the industry in periods of down markets.”
Bestinvest managing director Jason Hollands argues similarly that bonuses should not be capped, adding that any decision to cap pay should be a matter purely for employers and employees.
Hollands says: “I am opposed to any form of regulatory capping on pay or bonuses, which in a free economy should be a matter between the employee and employer based on a commercial judgement of their worth to the business.
“Whereas such policies have been introduced for banks – merely leading to fixed-pay hikes – there is no evidence that fund managers have caused a systemic risk to markets.”
Bathgate and Hollands agree that the investment of half of a manager’s bonus in fund units should help to better align their interests with those of clients, although Hollands again stresses that this should be a personal choice rather than a regulatory decision.
Some experts are querying the need for the new pay curbs because there are parallels between the measures being brought in under Ucits V and existing arrangements for remuneration.
Hargreaves Lansdown head of research Mark Dampier points out that many fund managers already defer bonus money into the funds they manage. He says: “Most managers who are worth anything will put some of their own remuneration into their own units anyway because it is actually tax-efficient, so I kind of wonder if these rules are really needed?”
PwC reward team director Tim Wright believes that while some firms will have to make significant changes to remuneration packages to meet the new EU pay curbs, many businesses already align pay in principle with the return experienced by investors.
These similarities to existing pay practices could lead to the Ucits V rules being viewed as a compliance burden by fund groups, according to Bovill regulatory consultancy head of funds Ashley Kovas.
Kovas says: “The bonus culture for the vast majority of fund managers is already aligned very closely to the fund’s performance so in that sense these rules are not needed. This will add very significantly to the compliance burden being heaped on the fund management industry.”
He adds: “These new rules will be very unpopular with the fund managers they will affect, who will regard this as a very big hammer to crack a very small nut.”
Dampier questions whether the EU should in fact be allowed to intervene in industry pay rules in this way. He says: “I do not think the EU should have anything to do with this, or that it actually has the right to in accordance with EU treaties.”
Bathgate highlights another potential risk – that managers may deliberately seek to decrease the risk of their portfolio if they are made to partially defer bonuses into their funds.
He says: “The risk here would be that the manager would decrease the risk of the fund the more they had invested. But a balance could be struck and this could be monitored.”
As for the impact of deferring 40 per cent of fund manager bonuses for three to four years, Wright says further consideration will be necessary to establish how this will affect managers who leave fund groups for different reasons. He says: “It is not clear yet how big an issue this will be. Until we see implementing measures around the directive, we do not know what flexibility will be available to deal with people who leave on good terms, for example, redundancy or retirement.”