Would Passive Investing Exacerbate Excessive Executive Compensation?

Norak - As regards voting shares against excessive exec compensation, I've voted against nominees many times (my tiny number is like one vote per citizen - it DOES count). But I believe mutual fund managers fall into the same category of overcompensated execs. Really, if someone can't manage their personal affairs on less than $5 million a year, is he r-e-a-l-l-y qualified to run a company? It's turned into a club of people who have no conception of the meaning of production.

Look at the number of mutual funds who had more than 12% of their so- called risk adjusted asset allocation in financials such as FNM, FRE, AIG and so on. Ya' think they did in-depth analysis before putting up hundreds of millions of dollars (e.g. $1.6 billion into WB)? Naaaahhhh.

Anyone who owns funds should put pressure on their fund to vote against some of the ridiculous pay packages, such as MER had, and maybe we'll see an end to the $350 million dollar annual salaries paid to hedge fund heads in 2006?

Suppose the manager of fund A gets a 2 million and the manager of fund B, with similar investment goals, gets 50 million. We should ask: In what way does fund B differ from fund A? Has it had superior performance in the past? What is manager B's record and investment skills, and are they really worth 25 times more than manager A? Or is manager B very bad at his job compared to A?

My guess is that you would not often find a big difference in the past performance of the two funds. In fact, I would bet that the two funds invest in many of the same companies, and that differences in decision making about the choices are limited to a relatively few possible investments. Anyway, we know past performance does not guarantee future results. So why does one manager get 25 times as much compensation as another? Does someone believe his unusual expertise will bring remarkable results in the future? Who believes that?

Another question: We are paying attention to excessive compensation for managers, but what about other officers in the companies and their boards of directors? Are managers alone in dipping into the pot, or they paid those huge salaries because others who do the hiring and firing are dipping into the pot too?

overcompensated execs_.

I.e. fund managers are a subset, as are CEO's of now defunct financial companies. Ten of them? Twenty? I own only a small number of one mutual fund's shares ... they were overweighted in financials. Obviously, the dog ate their homework (i.e. they did not do it).

difference in the past performance of the two funds. In fact, I would bet that the two funds invest in many of the same companies, and that differences in decision making about the choices are limited to a relatively few possible investments. [snip]

Precisely - in the theory, the analyst department is entirely segregated from the portfolio management (pm). Some family of funds "pm's" are fed from the same companies to choose from. Others begin with the SP500, with the idea that they will not stray far from their 'benchmark'. I think that's why index funds became popular. I believe size of fund determines the 25x pay, but to me, it's a linear rationalization of excess.

I vote company proposals as I see fit. But how do funds, funds with high turnover, and index funds vote their shares? If more people invested in individual companies instead of being passive, would that affect compensation?

- George

Hedge fund managers don't get "salaries" of $350 million. A few very sucecssful ones earn such performance fees when their funds are large and do extremely well. Since no one is forced to invest in a hedge fund, and since the fees are disclosed ahead of time, I don't think the government should set limits on such performance fees.

Beliav -

CNBC reported that of the 2,000 hedge funds in 2006 the *average* compensation was $350 million. CNBC also reported that was taxed at capital gains tax rates of 15%. I'm not trying to be contentious, here, but honestly, I do not believe for a moment that all hedge funds have no spill-over into the broader economy. LTCM (Long Term Capital Management) for example had $4 billion some-odd in capital near its demise (via bank bailout) in 1998 - but they "had" to be bailed out because they controlled over $114 billion. If those bonds were dumped in liquidation, the FRB felt it would cause a world-wide financial crisis on top of the one (1998) already unfolding.

The bailout we are in now is simply banks who took on hedge-fund type leverage.

Modoff was self-contained with investors as losers. The banks on the other hand leveraged *everyone's* deposits, and continue to do so, and they are obviously not self-contained. Nor was LTCM. Why these 'people' should get filthy rich - at hedge funds, banks, insurance companies, and other related disasters is beyond me. I also feel that healthy companies' compensation packages are way out of line, and could be brought back to reality through shareholder proxy votes.

- George

some comments on how funds vote their shares. I frequently fail to vote my shares because it's not clear as to what is in my best interest.

-- Ron

Ron,

Thank you for that link. It is interesting. I was under the impression that probably 35% of all funds simply never voted, because their turnover was high. Apparently, I was wrong about how they vote on compensation - but only 1% of proxies included that issue.

In 1985 I recall Mobil's CEO got a $3.5 million dollar package. I wonder how, adjusted for inflation, that compares to today's CEO's 'package'. As I recall recently, GIS's CEO takes a $20 million total, options included. WB's Thomson took away $6.7 million *cash* and could have exercised and sold options in excess of $100 million if WB had recovered to $50 within 3-5 years (now that's gross).

What I fear is that directors fall into a 'mind-set' that compensation must be huge. I wish I understood more about 'aligning executive's interests with those of the company' - because right now it looks like a big fat cop-out to me. I try to select well-managed companies, but often hold my nose over the CEO making twice what his second gets, which is twice what the third gets, and so on down. And the thing with Disney and Ovitz (and later "me too" packages) really make me sick. One agrees, then another, and pretty soon everyone wants a gold hula- hoop. Tens of millions for a few months work? Ethics drop out, and that will reflect in the quality of decisions. Where's that "Against" box ... ?

George.

I think that either you misheard them, or they got something wrong. Googling "hedge fund assets 2006" gives a figure of $1.89 trillion under management, which would make compensation/assets equal to 37%. That is practically impossible, since the typical hedge fund structure is 2% of assets and 20% of profits.

#hedge funds 2,000 avg compensation 350,000,000 total compensation 700,000,000,000 hedge fund assets 1,890,000,000,000 compensation/assets 37%

I thought this was worth adding to this thread. At least someone (at Credit Suisse) has a sense of humor about exec compensation. It was probably someone's six-year old daughter who suggested it over family dinner-time, but hey ... we need some new blood in management, right?