Goldman Sachs Group Inc., which set Wall Street pay records when stocks surged and cheap credit abounded in 2007, is again leading the industry as markets boom anew: putting aside less money for staff and more for investors.
Goldman Sachs, along with the investment-banking divisions of six of its biggest U.S. and European rivals, allocated a collective 39% of revenue for compensation in the first nine months, down from 42% a year earlier and the 50% some firms earmarked before the financial crisis. Goldman Sachs’s 41% ratio so far this year is its lowest nine-month figure as a public company.
Rising revenue at many banks is stoking employees’ hopes for larger bonuses, after year-end payouts were cut in the wake of the financial crisis and packed with restricted stock, which vests over time. Firms instead are preparing to shrink compensation for individuals amid investor pressure to improve return on equity. The measure of profitability stands at 10% or lower at each of the five biggest Wall Street banks - - less than half the levels that preceded the credit crisis.
“Someone’s going to be disappointed,” said Joe Jolson, co-founder and chief executive officer of JMP Group Inc., the San Francisco-based investment bank. It will be “bankers that haven’t really been paid any real cash bonuses for five years, or the shareholders of these companies.”
Bonus Optimism
Goldman Sachs has boosted its quarterly dividend to 55 cents a share from 35 cents, a 57% increase, since the beginning of 2012. Before last year, the New York-based firm’s dividend hadn’t been raised since 2006.
Average compensation cost per employee at Goldman Sachs fell 5% to $319,755 in the first nine months of 2013. At JPMorgan Chase & Co.’s investment bank, it dropped 4.8% to $165,774. The figure plummeted 16% at Zurich-based Credit Suisse Group AG to $204,000.
Each of the seven investment banks cut the absolute amount allocated for pay, even as five posted higher revenue.
More than half of bank employees expect bigger awards this year than last, according to a survey conducted by eFinancialCareers.com. The September poll drew 4,642 respondents in the U.S., U.K., Germany, Singapore, Hong Kong, Australia and the Middle East.
Rewarding Stars
As banks divide up compensation pools, pay will diverge more than usual among businesses and workers, said Robert Dicks, a principal at New York-based Deloitte Consulting LLP who focuses on compensation and benefits at financial-services firms. Companies seeking to shrink their pools can reward star bankers only by taking from other staff, he said.
“Banks continue to play this balancing act between telling shareholders and the public that overall pay is moderating, and it is, while maintaining a focus for employees who are highly successful or in highly profitable areas,” Dicks said. “The mathematics of that is somebody is getting squeezed.”
Investment banking revenue at the five biggest U.S. firms - - Goldman Sachs, Morgan Stanley, JPMorgan, Bank of America Corp. and Citigroup Inc. -- rose 16% in the first nine months, while equity trading revenue climbed 9%, according to data compiled by Bloomberg. Fixed-income trading fell 11%.
Firms benefited from a 16% jump in the value of initial public offerings globally and a 34% surge in offerings of high-yield bonds during the year’s first nine months. U.S. stocks surged, with the Standard & Poor’s 500 Index climbing 18% and reaching record highs.
High Hopes
“People’s expectations go up a lot when their business goes up,” said Jolson, whose firm increased headcount to 231 as of Sept. 30 from 217 a year earlier and set aside 24% more to cover pay costs. “Revenue production is up, and they expect to be paid.”
Bonuses for equity traders and investment bankers probably will rise, offset by a drop in pay for fixed-income traders, said Michael Karp, CEO of New York-based recruitment firm Options Group. Rewards for equity employees may catch up to their fixed-income counterparts, reversing the trend of bond trading as the dominant business in recent years, he said.
Aggregate compensation for the industry may increase for the year as banks hired more compliance and legal staff, and as lower-tier firms boost pay, Karp said. That won’t translate to bigger bonus checks for the average worker at major banks.
“In general, people are expecting to get paid more than last year, but that’s not going to be the case,” Karp said. “It really depends on what area you’re in. Within firms, pay is going to be very divergent within groups.”
Shrinking Gap
Senior employees who don’t generate revenue will be among those targeted for pay cuts, Dicks said. Banks’ top managers in corporate roles such as human resources and information technology historically earned more than their peers in other industries, he said. That gap is disappearing as banks are forced to rein in costs, he said.
Total pay for top bankers and traders in 2012 was about half that of 2007, according to an Options Group report last year. After markets tumbled in 2008, Wall Street drew criticism from investors, lawmakers, regulators and even its own leaders for rewarding employees too lavishly during market bubbles.
Former Goldman Sachs Chairman and CEO Henry Paulson, who was paid an $18.7 million cash bonus for his final six months of work on Wall Street in 2006, has said the industry bailouts he later orchestrated as U.S. Treasury secretary should encourage firms to exercise restraint.
Restraint Needed
“During benign periods, I think compensation levels on Wall Street are out of whack,” Paulson said in a 2010 interview conducted by billionaire Warren Buffett. “Restraint is very much in order by the top people.”
Goldman Sachs, Morgan Stanley and JPMorgan’s investment bank collectively reduced staff last year, allowing them to boost pay per employee even as the pool of money shrank. The three New York-based investment banks have reduced collective headcount by 337 this year through September, compared with 6,920 cuts in 2012.
With profitability remaining below pre-crisis levels, companies are seeking to return more capital to shareholders. The five banks paid out $12 billion through dividends and stock buybacks in the first half of this year, and already have surpassed their $13 billion total for all of 2012.
The moves helped drive the companies’ stocks higher. Morgan Stanley climbed 52% this year through yesterday, while Goldman Sachs and Citigroup rose 27% and 26% respectively. Bank of America advanced 22% and JPMorgan 20%.
Congress’s Role
Bonus expectations in the U.S. may have been tempered by the government shutdown this month and its impact on the economic recovery. As congressional budget talks deadlocked in September, U.S. employees expressed less optimism than colleagues abroad, with only 42% predicting their bonuses would rise, the eFinancialCareers.com survey showed.
New York State Comptroller Thomas DiNapoli said in an Oct. 22 report that the turmoil in Washington may hurt fourth-quarter profits and crimp bonuses this year.
Morgan Stanley’s institutional securities group cut its compensation-to-revenue ratio to 42% in this year’s first nine months, down from 46% a year earlier, excluding certain accounting charges. JPMorgan’s corporate and investment bank pared its ratio to 31% from 34%.
Goldman Sachs’s 41% surprised analysts by dropping below the 43% it had allocated in this year’s first half. Chief Financial Officer Harvey Schwartz indicated the firm could further reduce the ratio, which was 44% in 2012’s first nine months and ended that year at 38%.
UBS, Barclays
“We’ll look at all the components: competitive dynamic, performance and, of course, shareholders and ROE,” Schwartz, 49, said on a conference call with analysts earlier this month, referring to return on equity.
Credit Suisse cut compensation costs at its investment bank by 17% in the first nine months of the year, while Zurich-based UBS AG reduced its investment bank personnel expenses by 7%, even as revenue jumped 22%. Frankfurt-based Deutsche Bank AG cut its pay pool for bankers and traders by 13%, while London-based Barclays Plc’s investment bank compensation fell 4%.
Citigroup, which doesn’t break out those costs for its divisions, said total expenses in its investment bank were down 3% from a year earlier, driven by job cuts and “lower performance-based compensation.” Bank of America, which also doesn’t detail pay costs, has done a “good job” of keeping expenses in check in its trading unit, CFO Bruce Thompson said this month.
Reaching Limits
Compensation costs include salaries, bonuses, benefits and the amortized expense of previous years’ deferred pay. The difference between the costs recorded on the income statement and what the bank actually hands out has led some firms including Bermuda-based Lazard Ltd. to report “awarded compensation” in addition to the accounting-expense figure.
Bankers may not feel the full brunt of shrinking compensation expenses this year because part of the decline will come from a drop in costs deferred from previous years, according to Brennan Hawken, a UBS analyst. He estimated that the five U.S. banks will recognize $10 billion of costs from previous years’ pay in 2013, down from $10.8 billion in 2012, with Charlotte, North Carolina-based Bank of America posting the only increase.
Limited Room
Banks may have limited room to push more of the expense of this year’s pay into future years, Jolson said. Morgan Stanley deferred 100% of bonuses for employees who made more than $350,000 and had bonuses exceeding $50,000 for 2012, people briefed on the matter said in January. Goldman Sachs and JPMorgan have largely eschewed using deferred cash as a way to reward employees while lowering the current year’s cost.
“I don’t think you can go much further,” Deloitte’s Dicks said. “For an employee whose paycheck has relation to their spending, the deferrals are now real, and they have an impact.”
Wall Street’s bonuses probably will hinge on firms’ fourth- quarter performance, Goldman Sachs President Gary D. Cohn said last week in a Bloomberg Television interview with Stephanie Ruhle. He said he’s “cautiously optimistic” for his company’s earnings in that period.
“To the extent that firms have decent fourth quarters, I think bonuses will be somewhat in line with last year,” said Cohn, 53. “At Goldman Sachs, if we don’t have a good fourth quarter, bonuses will be down, because the one thing we have done and have committed to our shareholders is that our bonus payments will be directly correlated to our revenue.”
