What's Wrong With Billionaire Fund Managers?
An article on humongous hedge fund paydays in today's NYTimes was quite interesting:
"The richest hedge fund managers keep getting richer — fast. To make it into the top 25 of Alpha’s list, the industry standard for hedge fund pay, a manager needed to earn at least $360 million last year, more than 18 times the amount in 2002. The median American family, by contrast, earned $60,500 last year.
Combined, the top 50 hedge fund managers last year earned $29 billion. That figure represents the managers’ own pay and excludes the compensation of their employees. Five of the top 10, including Mr. Simons and Mr. Soros, were also at the top of the list for 2006. To compile its ranking, Alpha examined the funds’ returns and the fees that they charge investors, and then calculated the managers’ pay."
This is exactly the sort of thing that makes my liberal friends crazy. It shouldn't, but it does.
And, I make it even worse, by pointing out to them that if they thought it through, they should have no problem with the John Paulsons, (Paulson & Company), James H. Simons (Renaissance Technologies) and George Soros (Quantum Fund) of the world. These 3 earned a neat ~$3 billion apiece last year.
And by earned, I mean these guys earned it. They have figured out how to make money for their partners and clients. Their skill sets add value. There have always been people in the world who had vast amounts of wealth -- earning it legally through your own cleverness and hard work should not be a problem. Dictators, Robber Barrons Sultans, and Anti-Trust violators are a different story.
I believe it is misdirected energy to rail against that.
On the other hand, there are plenty of bad actors they should be truly upset about instead. Stan O'Neal of Merrill Lynch (MER), Chuck Prince of Citigroup (C), Robert Nardelli of Home Depot -- any many, many more undeserving cads -- are value destroyers. And they got paid an absurd amount of money to help destroy the very companies they were brought into run. If you have a retirement account (IRA, 401k, Pension plan) then they took money from you. That is unconscionable to me.
How did billions in shareholder money get transferred from S/H to departing schmucks?
The short answer is Crony capitalism. They have (had) do-nothing-boards who failed to watch out for the shareholders' interest. I sit on the Boards of 2 public companies, and I am very conscious of who my constituency is. Remember, Board of Director members are elected by, and work for the Shareholders -- not for insiders, not for management. Whenever a BoD cuts a deal with one of these they become diminishers of value, they are not only failing in their fiduciary duty to the shareholders, they are essentially converting corporate assets private ones for their buddies.
This used to be known as stealing . . .
>
UPDATE: April 17th, 2008 5:21am
I think people are overlooking something: These guys are the top 0.01% of their industry -- they ARE the Michael Jordan and Steve Jobs of their industries.
What they create are investment returns -- something that many hedge fund managers do not. In fact, about 25% of funds are dissolved each year due to poor performance and the unlikelihood of manager compensation (courtesy of the high watermark).
>
Source:
Wall Street Winners Get Billion-Dollar Paydays
JENNY ANDERSON
NYT April 16, 2008
http://www.nytimes.com/2008/04/16/business/16wall.html
Wednesday, April 16, 2008 | 07:00 PM | Permalink
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» Hedge Fund Compensation from The Big Picture
Earlier this week, I asked, What's Wrong With Billionaire Fund Managers? In noted the very top % of this profession carried enormous compensation for those Alpha creators who earned tremendous returns for their partners. Most of the top earners are als... [Read More]
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Comments
Um, I am hardly liberal, and in fact generally an economic conservative. However, as I understand it, hedge fund managers get away with paying the 15% capital gains tax on the majority of they're income. It is total B.S. that the richest of the rich basically pay a lower tax rate than all of us peons, and for what? trading? I mean, COME ON! If they were like Bill Gates and created a big company that employs lots of people it wouldn't bother me that they get away with some poultry tax rate. (Employing traders at the hedge funds is not quite the same thing as creating a Microsoft or a Google or a Monsanto). It also annoys the living crap out of me that the wealthy don't have to pay the Social Security tax on all their income and then I hear whining about how high their tax rate is.
Like I said, I consider myself to be mostly an economic conservative (except perhaps on taxes), and I plan to vote for McCain, but I'm not going to be too disappointed when Obama raises all these taxes.
~~~
BR: I don't disagree with you about the taxes -- but thats not what this discussion is about.
Posted by: Joe | Apr 16, 2008 7:14:15 PM
Nice comparison. Well Done!
Posted by: Portland Refugee | Apr 16, 2008 7:17:12 PM
They may not be value destroyers, but they are hardly captains of industry. It looks like they mainly make their money by betting. I understand they're really just taking a cut of other rich peoples money, so it's certainly not stealing, but yeah, the 15% tax rate is pretty disgusting.
Posted by: will | Apr 16, 2008 7:20:50 PM
Please don't forget William Harrison, former CEO of JPMC and destroyer of value, in the hall of crony capitalists.
Posted by: am4 | Apr 16, 2008 7:25:02 PM
Is Paulson related to Hank Paulson?
Posted by: Jon H | Apr 16, 2008 7:25:37 PM
These hedge fund guys should be railed against for a different reason. They are a symptom of the monetary policy of this country (and if not this, others). What is a dollar worth if some people can make $3 billion in a year? What chance does any common man have of competing? If we do go into a food shortage or an oil shortage, they have a very significant upper hand in dollars. It is troubling. Perhaps they also suffer losses in their off years, or maybe those profits are already protected.
Posted by: s0mebody | Apr 16, 2008 7:26:42 PM
And by earned, I mean these guys EARNED IT.
The flaw in that argument is that their 2+20 (and similar) compensation acts like a ratchet.
It rewards for good decisions, but doesn't provide punishment for bad decisions.
It rewards for good luck, but doesn't punish for bad luck.
It also provides hefty compensation for a manager who produces just average returns.
Over the long run, of course, investors can "punish" a bad (or unlucky) manager by withdrawing funds. In reality, though, a manager can pull in hefty compensation while investors are trying to determine if pulling funds is the best decision.
Posted by: ottnott | Apr 16, 2008 7:28:30 PM
Barry:
I don't doubt that all these hedge fund managers are smart. However, you yourself have said in the past that your predictions (which came very close last year) is mostly the product of luck. Couldn't it be true for the hedge fund managers as well? And don't these guys (or gals) get paid the same rate regardless of whether their fund goes up or down? So making more money is somewhat a product of luck of guessing well (and therefore benefiting from a herd that values winning)?
~~~
BR: Forecasts are a strategy technique we do to war game various scenarios. It is an intellectual exercise -- a set of "What ifs."
You don't run money on the basis of forecasts or predictions. (Well, good managers don't. Luskin did and lost more than half his clients money.)
Posted by: OkieLawyer | Apr 16, 2008 7:32:10 PM
It looks like ottnott and I were thinking the same thing at the same time.
Posted by: OkieLawyer | Apr 16, 2008 7:34:17 PM
Um, I thought that the "fooled by randomness" strategy of making millions (billions) in risky bets, and then getting yours before the fund blows up ... was ultimately wealth destroying.
~~~
BR: Jim Simons has put up 35% per year for over two decades.
Random? Hardly.
Posted by: odograph | Apr 16, 2008 7:40:03 PM
I asked a hedge fund friend why he charged 2 and 20. Very matter of factly he explained that he didn't think he could get 3 and 30!
Whatever the market will bear. BEAR!!!!???
Posted by: Ross | Apr 16, 2008 7:40:37 PM
Joe:
How can you call yourself an economic conservative, yet want anyone (including the richest of the rich) to pay MORE taxes.
Also, keep in mind that at 15%, John Paulson paid 550 million dollars in taxes, equivalent to the entire salaries of 11,100 people (assuming $50,000/year salary).
So, what percentage in taxes do you believe they should pay of their income for it to no longer be poultry?
Posted by: Jonathan | Apr 16, 2008 7:42:36 PM
I do take Barry's point but could endorse it more heartily if hedge funds were not closed to all but those who had a serious chunk of money available for speculation. Hell yeah I'd like to be one of those clients reaping the benefits of these managers' ability to generate money -- but I'm not already wealthy, so too bad. My own objection to hedge funds is not because of the wealth they create but for whom they create it. Note too that the whiffy tax dodge w/r/t compensation allows the industry to attract the best managers and analysts -- less exclusive investment vehicles cannot compete in that regard so will generate lesser returns with lesser talent. Hedge funds are both symptom and cause of an increasingly stratified society. One can get incensed or remain neutral about that, but I can't see how it isn't so.
Posted by: Pubsec | Apr 16, 2008 7:56:06 PM
I thought that said "makes my library friends crazy."
Posted by: Owner Earnings | Apr 16, 2008 8:10:24 PM
I don't have a problem with a guy making a buck trading, or making an arbitrage bet, but what makes me nuts is when these guys who have never run any thing in their lives other then their hedge fund buy a pile of stock and start telling management how to run the company!!!! "We're unlocking shareholder value". yeah right, you're pirates who leave a smoking wreck behind you and the employees and retail investors holding the bag.
Posted by: MarkD | Apr 16, 2008 8:26:16 PM
The important points have been made, so let me add my opinion. I have no problem with guys making this much money as long as there is a nearly equal downside. 2 and 20 should also mean 20% of losses. In that case, I say go to town.
Posted by: F | Apr 16, 2008 8:32:05 PM
Hedge fund managers make money by taking risks with other peoples money. Most of the strategies are based on regulatory arbitrage (doing things that mutual funds and banks aren't allowed to do such as excessive leverage). As a whole, the industry destroys value (underperforms the S&P with more risk).
As a general proposition, the regulations on mutual funds and banks are a good thing because they prevent excessive instability in financial markets which can effect real business that actually create value.
You have properly applied the term "steal" to Mr. O'Neal and co. Although it is far more subtle and only the economic sense, the term should also be applied to Mr. Paulson and his ilk. Just as Julian Robertson was a net loser of others money yet a billionaire himself, the same fate awaits most of the others on this list.
By the way, Barry, do you really think that we can build an economy where the greatest rewards flow to traders and not entrepreneurs?
The notion that they "earned" the money in the economic sense (that is created economic value) is preposterous. The rise of the hedge industry and other exotic strategies has clearly not made the cost of raising capital for real investments any lower. What it has done is transfered lots of money from pension funds to hedge fund managers and created lots of instability.
The word "steal" has some subtle meanings. It is well applied to Mr. O'Neal and his corporate bretheren but they are relative pikers compared to Mr. Paulson and others.
~~~
BR: Plenty of rewards have flowed to entrepreneurs: Steve Jobs, the Google boys, the Facebook kid, etc.
BTW, can you tell me how you would construct an economy that somehow prevents "the greatest rewards flow to traders and not entrepreneurs?" I can't figure that out . . .
Posted by: Justin Dangel | Apr 16, 2008 8:33:29 PM
A lot of pitchforkin' going on around here. Nobody forces an accredited investor to invest in a hedge fund. Nobody forces them to keep their money in the fund if the manager has a down year. The fund manager often has a lot of skin in the game. There are thousands of registered funds. The article BR mentions lists the top 25 which is well under 1% of fund managers.
Will, if you're interested in the skinny on the tax structure that you rail against, this URL links to a paper by an attorney who feels the deference of ordinary income to cap gains treatment is unfair. Not sure I completely agree with him but it lays out the argument in a straightforward mannner.
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=892440
Posted by: bonghiteric | Apr 16, 2008 9:02:04 PM
J Dangel,
Are you are equating John Paulson's actions (however subtle)with Stan O'Neal's? If so I believe your argument is cinefozzian in its logic.
Posted by: bonghiteric | Apr 16, 2008 9:10:51 PM
why all the complaining here ??
These hedge fund managers made big money betting against
the USD and US debt.
The real crooks were the ones that created the mortgage/derivative mess we have today.
All of you guys crying sour grapes surely,,,
can't blame your lack of misfortune on the hedge funds ??
You could have made the same bets as soros and made money. Yet you did not have the balls and now crying about the hedge fund guys ?????
Posted by: rickrude | Apr 16, 2008 9:11:42 PM
It is a rhetorical I've heard so many times and I still think it's wrong. Three points:
1.It is not the entire picture. Why are those super-managers rewarded so much these days, especially as compared to the older times (50s and 60s for instance, or just as compared as 2002 when they were paid 18 times less).
2. The issue of inequality is conspicuously absent from the post above.
3. I wont mind those astronomical figures upwards (pay in your pockets) when managers will be held entirely responsible of losses as well. It's too easy to be only responsible when things are doing well. I want hedge fund managers who destroy wealth to pay their customers back still 20%, making their effective losses only 80%. Plus a fat flat fee, of course, and a letter of apology signed with blood.
Posted by: Giovannoni | Apr 16, 2008 9:11:51 PM
earned it? my foot..
the fact that there exists a system where somepne can make such vast amount of money in such a short time must betray its weakness and unsustainability in the long run...
open your eyes beyond trading...
Posted by: andiron | Apr 16, 2008 9:15:03 PM
Jonathan:
Since you called me out... I am an economic conservative on just about everything including taxes somewhat. I want a balanced budget. I don't want to socialize everything under the sun like health care. I want deregulation (to some degree). I want intellectual property protected. I even want less taxes, once the budget is balanced. I do not however want the rich to pay a lower tax rate than the rest of us. I payed 28% last year, and I payed FICA tax on all of it, so you can probably come pretty close to figuring out my income based on that. If you are a super successful hedge fund manager you end up paying roughly 15% on all your income (not counting state and local). If you are an engineer making less than 100K you pay 28% + 6%(fica) on what you make. If you make 1 million the old fashioned way you might pay 35% and only 35% on average as you don't pay the 6% on 900K, putting us sucker engineers in a 34% bracket next to the 35% income.
So here's what I'd be happy with. All income should be treated as income, and you pay the FICA tax on your entire income. So if you make 1 KadJillion dollars every year from your hedge fund that you administer you don't get away with paying a lower tax rate than anyone else who pays taxes (lowest rate being 10% + the 6% for FICA). You instead would pay 41% with the 35% rate + the 6% in FICA. IF this was done, than perhaps we could reduce all marginal tax rates.
Posted by: Joe | Apr 16, 2008 9:33:20 PM
"oe:
How can you call yourself an economic conservative, yet want anyone (including the richest of the rich) to pay MORE taxes."
>>Is being an economic conservative means that you MUST oppose ANY tax increase for ANYONE? Has the notion of being a conservative been devalued to that single notion? Only if you confound the concept of American neocon with true conservatism.
Also, keep in mind that at 15%, John Paulson paid 550 million dollars in taxes, equivalent to the entire salaries of 11,100 people (assuming $50,000/year salary).
>>And your point is? By the same logic, a secretary in Mr. Pauson's office taxed at a 35% rate does not contribute "enough". If that is what bothers you so much, perhaps the secretary should be taxed at 85%.
The idea is rather simple: How much do you have left after taxes? The secretary taxed at 35% does not have much left compared to Mr. Paulson taxed at the same rate. So, pray inform us why is such a problem to tax the richest at a rate AT LEAST equivalent as the one paid by the working stiff? Why is it that EVERY TIME this topic hit the blogosphere, some people loose all common sense (and any sense of fairness too BTW) and argue that the rich MUST pay lower taxes.
"So, what percentage in taxes do you believe they should pay of their income for it to no longer be poultry?"
You meant "paltry" right? What percentage? I say at least what the highest tax bracket is for the working class people. Not less. And No! Loopholes need not apply.
It's called fairness...a true conservative value.
Posted by: Francois | Apr 16, 2008 9:37:28 PM
When the hedge funds have completed their mission and the East is under "our/their" feet/thumb.
When all the excess money that's been feeding the current "war" has evaporated.
When all the bubble chasers have been popped.
Then you have found the bottom. Then will things seem "normal" again.
Posted by: Optical Vessicle | Apr 16, 2008 9:44:26 PM
