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Morning Coffee – Bonus caps are actually good! Boutiques are better to work at than bulge brackets, if you can

At the end of a reasonably dismal bonus year, British investment bankers might at least be able to take some cheer from the fact that their local regulator is repealing the bonus cap, among other bits of European legislation that the post-Brexit government has decided it can do without.  Left-wing newspapers are suitably appalled, and it’s back to the good old days.  Or is it?

Researchers at the Bank of England have been crunching numbers on the last decade of regulatory returns for “Material Risk Takers” (the bankers whose pay has to be separately reported), and they seem to have confirmed as fact something which the smarter cookies in the industry have suspected for a while.  When bonus caps are brought in, overall pay doesn’t fall; it just gets rebalanced from variable to fixed compensation.  British and European bankers don’t usually get the massive paydays of their American colleagues in good years, but they are somewhat insulated from the effect of lousy years, and the two effects seem to roughly balance.

Not only that, but the other effect of the bonus cap – the requirement for bonuses to be paid with a large deferred element and subject to clawback – actually increases total compensation.  The researchers point out that cash flow in the future has to be discounted, and risks of clawback have to be compensated for, and the implicit premium paid to take account of this is actually quite large.

All this is reasonably intuititve and in many ways ought to reassure us that the hiring market is at least broadly efficient.  Front office employees and material risk takers exist in a global labour market, and one which includes hedge funds, private equity and boutiques.  The equilibrium of that market is determined by overall supply and demand, and regulating the structure of compensation packages in a subset of the regulated industry doesn’t change that balance.

Except … maybe it does.  It’s noticeable that the Bank researchers confined their analysis to risk-takers where they had data for at least three years.  This matters, and might have affected their results, because smart cookies in the industry know that in order to benefit from the deferred compensation scheme, you have to actually stay around to get it. 

The system of deferral is effectively a tax on moving jobs, and it’s potentially a quite substantial one.  A lot of the incidence of that tax falls on employers – they have to take into account the cost of buying out people’s deferred packages, and this has been known to sink some high profile recruitments like that of Andrea Orcel.  Few people manage to collect one hundred per cent of all the bonuses they’re awarded over the course of a career.

And by making it more difficult to leave an employer, the system is quite likely to be making that efficient market less competitive.  It’s harder for bankers in hot sectors to jump from firm to firm and chase the highest bids, and so the overall level of compensation across the industry is most likely a bit lower than it might be in a truly free market.  Maybe the end of the bonus cap is worth London bankers celebrating after all.

Elsewhere, the general sense that some of the advisory boutiques haven’t had anything like as bad a year as their bigger competitors seems to be based in fact.  According to Refinitiv data, boutiques finished the year with a share of 36% of total M&A fees, compared to 34% for the bulge bracket.  And of course, the nature of the industry is such that the revenue from that 36% is divided up between a much smaller number of hungry mouths.

Unfortunately, this might not be as great news as it seems for rainmaker Managing Directors dreaming of quitting next year and hiring an office with two or three of their old friends.  Part of the explanation for this trend is that firms like Lazard, Evercore and Moelis are pretty big themselves these days.  It’s not at all clear that “true” boutiques in the old-fashioned sense of the world have become any more viable as a business model, and at their current scale the mega-boutique banks are less able to grow by taking market share; they’re just too big.  As the analysts at Breakingviews put it, Boutique Boulevard is not really the new Wall Street.

Meanwhile …

“Many organisations get recruitment wrong by reacting too quickly during tougher times given the time it takes to recruit good people again”, according to Charlie Jacobs at JPM.  Although headhunters and banks are expecting more rounds of layoffs, this isn’t necessarily going to affect pay at the high end – good people are still in short supply and hot demand. (Financial News)

Credit Suisse has finally lost its patience with Inside Paradeplatz, the Swiss banking gossip site.  Their lawsuit basically says that the comments section has gone too far into personal abuse of CS employees, and into encouraging clients to leave the bank.  (FT)

In praise of long lunches, as a way of helping colleagues form the bonds and relationships which might otherwise be missed out in a remote working world. (Bloomberg)

The investment banking industry is in danger of forgetting that the best bankers are often poor, smart kids who are much more driven and ambitious.  It needs to recruit more people who didn’t come up through silver spoons and elite universities (FT)

Meanwhile, the tech industry, which also has a thing about elite universities, is beginning to worry about “nepo babies”.  In companies where the founders gave themselves shares with disproportionate voting rights, control could be kept for generations.  And as someone points out, “how do you fire Mark Zuckerberg’s kids”?. (FT)

Despite calling himself the “Chief” Finance Officer at Binance, Wei Zhou might not have had access to all the company’s books at any time in his three years in the job, which feels like a bit of title inflation. (Reuters)

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AUTHORDaniel Davies Insider Comment

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