Off target

A misguided proposal to regulate fund managers’ pay

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Buttonwood asks why regulators are keen to apply bonus caps to the fund management (FM) industry. Positing an analogy with the banking sector, Buttonwood argues that such caps should not apply to FM because it does not pose systemic risks. However, the idea that the explanation for bonus caps on fund managers might lie in a fear of systemic risk is an obvious straw man – as Buttonwood himself concedes, funds are not leveraged, and so are not connected to the financial system in the way banks are. It is absurd to suggest that financial regulators might fail to spot this simple and fundamental difference.

Buttonwood goes on to suggest that, as in banking, regulated bonuses will lead to higher salaries rather than a decline in overall compensation, “making it harder for firms to control costs in a downturn”. But doesn’t every business have to face this problem? And don’t most businesses face it simply by setting salaries appropriately, and without feeling pressure to pay their staff immense bonuses?

Buttonwood’s second suggested rationale for bonus caps is simply that “European politicians think fund managers are overpaid”. If so, he suggests, domestic governments could simply “raise taxes on high earners”. But even in London not all high earners are fund managers (or bankers), making this approach hopelessly crude. Equally obviously, it would require the sort of coordination in tax policy that is impossible to imagine, meaning that there would of course be nothing to stop those who become subject to such taxes moving to another, more welcoming jurisdiction.

However, Buttonwood has “a better answer”, namely, the application of market principles. He suggests that “[n]o one is forced to give money to an active fund manager . . . [i]nvestors are at liberty to pick a passive fund . . . at much lower cost”. However, he then points out, correctly, that “the evidence suggests that the average investor would be better off taking the cheaper option”. This being so, why do investors continue to choose, “at liberty”, a more expensive but inferior option? Shouldn’t the market operate to correct this anomaly?

Buttonwood is right to complain about the scandalous but longstanding practice of active managers quietly paying incentive fees to advisers and brokers. While it is unclear how resisting the introduction of bonus caps would make any difference in this respect, there is an important point. Generally, market principles fail to apply to the FM industry because it lacks true transparency and accountability. It may, strictly speaking, be true to say investors are “at liberty” to pick one fund over another, but (for example) how many people really know where their pension savings are invested? If they don’t know but want to find out, how easy is it for them to do so? If they find out, and decide they want to change fund manager, how often are they able to do so, and what expenses are involved? If they want to make an assessment of their fund manager’s competence, how many people possess the skills required to do so? And how incentivised are they even to look into it, when the choice is often between managers who follow very similar investment strategies (often little more or less than tracking some index), and who anyway present information in unclear and not easily comparable ways?

It is for all these reasons (among others) that the business of managing people’s savings requires appropriate regulation and oversight of a kind that has historically been lacking. The EU has been extremely clear, and the FM industry (through bodies including the CFA Institute, EuroFinuse, Efama and AILO) has equally clearly acknowledged, that the primary objective of the EU’s bonus cap (and other) proposals is in fact neither avoidance of systemic risk nor punishment of overpaid managers, but rather the protection of retail investors. This having been made so manifest, it is odd that Buttonwood should spend so much time and effort debating these two spurious “reasons”. It is odder still that Buttonwood focuses solely on bonus caps when the proposed legislation (which includes not only UCITS V but also UCITS VI, MiFID II and PRIPs) addresses a wide range of important issues which he ignores entirely – including measures on (inter alia) disclosure, conduct of business and professionalism requirements, portfolio & risk management techniques, liquidity and the powers of national regulators.

None of this should be taken to imply that bonus caps in FM would actually protect retail investors, nor that bonus caps are a good idea for any other reason. But it does show that Buttonwood’s implication that regulators’ sole motivation is an unthinking desire to “give finance a kicking” should perhaps not be taken at face value.


What a biased article. You didn't even explain what Parliament's reasons were.

Shocking journalism.

DavidMI in reply to Mikeylano

I think the point is that there is very little justification, if any, for this piece of legislation. The curbs on remuneration in banking are to mitigate traders and bankers taking on exorbitant risks.

In fund management these same reasons don’t seem to apply.

Mikeylano in reply to DavidMI

The article does not say why the legislation was voted for. Instead, it suggests that a parallel can be drawn with this issue and banker's bonuses, this risks of which, as you and the article correctly state, do not apply there.

But that does not confirm to us what the actual reasons were. It just leads you to assume that the reasons were the same.

DavidMI in reply to Mikeylano

What I think you'll find is that the article is trying to infer the reasons given the lack of rationale so far, while trying to dispel commonly held misconceptions.

Ultimately this is not a news piece reporting, this is an opinion piece (on a blog) trying to make sense of what is a fairly random and unjustifiable piece of legislation.

Mikeylano in reply to DavidMI

Fine. I just read the proposed legislation myself, and as I guessed, this article is completely biased and you have been swayed by that bias.

This was a vote to amend a Directive that was first implemented in the 1980s. This is just one part of the reform to it. Summary:


Here is the procedure file:


The legislation does not impose a cap as the EU recently passed on banker's bonuses. It merely requires each management company to set a remuneration policy that is transparent:

"It is envisaged to introduce a requirement for the UCITS management company to implement remuneration policy that is consistent with sound risk management of the UCITS fund and complies with minimum remuneration principles. The UCITS management company would also be required to disclose the amount of remuneration for the financial year with appropriate detail in the annual report of the UCITS fund."

Furthermore, this decision was arrived at from a public consultation:

"On 9 December 2010, the Commission services launched a second public consultation on the UCITS depositary function and on managers' remuneration, which closed on 31 January, 2011. In total, 58 contributions were received most of which signalled a broad support of the review initiative, particularly with respect to the clarification of depositary functions and to the simplification of the regulatory landscape as a result of the proposed alignment with the AIFM Directive."

This article completely fudges the real facts to make a story. It is the kind of journalism I would expect from the Daily Fail.

DavidMI in reply to Mikeylano

Thanks for this summary, although we still lack any real justification for this piece of legislation. What is the political motive for this? As you quote above, the real emphasis on the public consultation was the role of the depositary and AIFM.

Any authorised UCITS fund will require significant risk controls to make sure all decisions are appropriate for the risk appetite of the funds investors. While this doesn’t help when there is a mass collapse in financial markets, this should keep the fund within it's necessary risk parameters.

What you've outlined above also does not explicitly state what the measures will be. This is just as likely to be a cap as well as just a transparency measure. The interpretation, at least from those in the industry, is that this will constitute a cap. This is not the first time fund management has followed investment banking.

Not biased, just a commentary offering an interpretation of an opaque and unecessary piece of legislation.

Mikeylano in reply to DavidMI

The reason was primarily the Madoff Fraud and the fall of Lehman Brothers:

"The potential consequences of national divergences in the liability standard came to the fore following the Lehman bankruptcy and the Madoff fraud. In particular, the consequences of the Madoff fraud have been particularly acute in some EU Member States. In one instance, a particular fund that acted as a feeder fund for Madoff lost around € 1.4 billion."


Also, the proposed legislation is in that link. Articles 14a and 14b relate to remuneration. There is no cap enforced.

DavidMI in reply to Mikeylano

I didn't go into that as I thought it was covered well enough in the article. Madoff is a hedge fund, Lehman was an investment bank, neither will be covered by this legislation.

Also lots of 14b sounds like capping to me, in particular this though I'm no expert on European or Employment law:

(j) fixed and variable components of total remuneration are appropriately balanced and the fixed component represents a sufficiently high proportion of the total remuneration to allow the operation of a fully flexible policy on variable remuneration components, including the possibility to pay no variable remuneration component;

Mikeylano in reply to DavidMI

That is still not a hard cap; 14b just sets out the principles that should be followed to "establish a remuneration policy".

Furthermore, this is only a Directive. Which means that each Member State can implement the rules in any way they want. If it isn't expressly provided for then they will not have to impose one.

The only Member State obligation is:

"(14a)1.Member States shall require management companies to establish and apply remuneration policies"

"Policy" is all; no hard cap as in banker's bonuses.

DavidMI in reply to Mikeylano

So what your saying is that this forms part of the policy, and that having a policy is manadatory...

Agreed this doesnt put in place a hard cap of say €30k, however this soft capping will point to higher fixed remuneration as opposed to flexible... just as the article says...

Also you will need to adhere to these directives if you want to sell cross border and/or passport funds. Essentially one of the main reasons for adopting the UCITs structure in the first place, and not sticking to country specific schemes such as OEICs or NURS.

Mikeylano in reply to DavidMI

It is an entirely different scenario when funds can devise and impose their own caps, to when bankers must adhere to a statutory imposed cap.

This article does not distinguish the two; instead it suggests that the European Parliament ignorantly imposed exactly the same regime on these funds as they did on bankers. That is misleading and reeks of Eurosceptic bias.

DavidMI in reply to Mikeylano

A cap by any other name will still smell as sweet?

The European Parliment is justifying this legislation using an investment banks collapse and a hedge fund ponzi scheme blowing up. I think it's completely reasonable to assume that a)they are trying to regulate pay in the same way as Bankers hence the paralel, and b) that they dont have a firm grasp on the why's behind what is about to be "ignorantly imposed".

Disagreeing and challenging this legislation is not Euro bashing for the sake of it, this is holding the parliment accountable for legislating without proper reasons. These people are not infallible, and nothing you have said has shed light on their reasons, we are just left to presume and infer.

Mikeylano in reply to DavidMI

Pardon? Did you not understand my comment? What you wrote was entirely irrelevant.

I will repeat myself.

The article was inherently vague and did not address the particulars of the legislation or weigh up the actual reasons given for imposing the legislation. Instead, what it did, was take a controversial issue from last month and draw a vague parallel. That, in my opinion, is shoddy journalism.

DavidMI in reply to Mikeylano

Understood? Yes. Do they make sense? Well not in my opinion, and I believe that is in essence the point of what we're discussing... in fact it is the very glimmer of a point in an otherwise pointless discussion.

Mikeylano in reply to DavidMI

I'm not really sure what does not make sense. I shall refer to my original comment:

"What a biased article. [It] didn't even explain what Parliament's reasons were."

As we have discussed, the reasons were not mentioned in the article. In addition, the legislation was not justified on the same rationale as banker's bonuses. That is regardless of whether those actual grounds hold much weight.

However, as you say, the reasons given by Parliament might actually not be sufficient to justify this amendment to the Directive. But that is what the article should have discussed.

My point was always primarily on the validity of the article rather than the actual content itself.


Yet another totally misguided legislative effort from the EC where the unintended consequences will once again produce the opposite result than what is anticipated. Locking in the pay of bankers for a long term and making it dependent upon the continuing financial health of the bank does make some sense due to the potential for systemic problems arising from the moral hazard of paying for current decisions which then cause future problems. There is no such moral hazard in mutual fund management in which pay is based on past performance and if current decisions do not bring about continuing performance levels, manager's pay is adjusted and investors can decide at any time to move their money. Restricting and long terming pay and bonuses will only lead to more managers moving to unregulated hedge funds and the like which will have the consequences of:
1) More money placed with unregulated investment advisors with greater leverage and volitility of return,
2) Possibly leading to greater instability for those requiring investment return for their income e.g. pensioners
3) More locked in money as the liquidity of hedge funds is on the whole lower than mutual funds again potentially leading to instability for those hedge fund owners
4) Most likely limited or no reduction fees and/or management expenses passed on to mutual fund investors so restricting pay most likely will only serve to bolster the profit of a failing industry that has been caused to fail by its inability to compete for talent with the unregulated investment industry.
Sometimes I hope that the EC would develop legislation and at the last minute enact exactly the opposite of what they have developed in realization that that would be more beneficial to European society. I guess it's too much to hope that this bloated egregious organization could believe that doing nothing in most cases is better than their doing anything!



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