A $350,000 Increase in CIO Pay Could Lead to 60 Basis Points of Outperformance, Says New Study

Pension funds could improve their performance by between 48 to 60 basis points if they were to pay their CIOs more, according to a study published as a working paper for the Wharton Pension Research Council at the University of Pennsylvania. This translates to between $75 million and $95 million per year in extra returns for the average public pension.

The CIO dataset is unique because unlike the data for most investment management executives on Wall Street, the data on CIO compensation is publicly available.

The study compiled data from the Boston Center for Retirement Research and over 150 Freedom of Information Act requests to different states. By combining all these sources, the researchers were able to come up with a set of data that included variables like CIO compensation, investment return, asset allocation and geographic location.

They then used regression analysis to determine that plans in the top quartile of investment returns paid their CIOs approximately $350,000 more than plans in the bottom quartile. These differences appeared significant even when accounting for factors like plan size and geographic location.

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“I am very confident in saying that compensation does affect performance as a statistically significant effect,” said Kevin Mullally, an assistant professor of finance at the University of Central Florida who co-authored the study.

The bulk of the performance difference seemed to be attributable to asset allocation, according to the data. In particular, plans in the top quartile of CIO compensation allocated approximately 3.4% more to private equity, 2.4% more to real estate, and 0.8% less to commodities compared to the average plan in the study. The study also found that highly paid CIOs had better return averages within private equity and real estate.

CIOs with better compensation were also found to trade less often and be less prone to the disposition effect, in which investors sell assets that have increased in value and hold assets that have dropped in value. Additionally, those who were paid more were more likely to stay at the same job for a longer period of time, which was also associated with better performance.

One counterintuitive finding in the study was that incentive-based compensation like bonuses seemed to have no effect on CIO performance.

Mullally explained that the best way to understand the statistical technique they used to calculate incentive-based pay’s effectiveness is to imagine two CIOs who make the same amount of money each year. One CIO received all the compensation as part of her base salary while the other CIO received part of his compensation through an incentive-based bonus structure. Ultimately, the economists could determine the effectiveness of the bonuses by seeing if the person paid partly through a bonus had a better performance on average. This was how they discovered that bonuses and incentive-based compensation do not appear to affect performance.

“Initially, that was a bit shocking. It goes against what most people think about when it comes to being effective,” said Mullally.

Nevertheless, Mullally says that as he has spoken to more CIOs, the results have made more sense to him.

“I asked them, suppose I offered you a million dollars if you could generate 2% to 3% higher returns, how exactly would you go about doing that?” said Mullally. “And none of them could really give me a good answer. I mean I suppose theoretically you could work a little bit harder. But most of these guys already work pretty hard.”

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Tags: CIO, cio pay, Executive compensation, Kevin Mullally, Pension, Public Pension, Wharton Pension Research Council

Venture capital has downshifted lately, with fewer initial public offerings and declines in private valuations. But investors’ ardor for venture, as seen by VC fundraising totals lately, has hardly ebbed—and indeed flourished.

In this year’s rocky first quarter, U.S. venture capital funds raked in more than $70 billion in commitments, according to PitchBook data. That sum is more than 50% higher than the asset class’s entire fundraising take last year, which was a record.

This recent torrent of investing dollars should keep VC funds afloat for a long time, the research house notes in a report. The huge new influx of dry powder (readily available cash) by itself is sufficient to fund any foreseeable needs over the next 2.5 to 3.5 years, the report finds. That will include both new companies and existing investments.

To institutional investors, the returns over time from VC have been enticing enough to merit ever-richer investments. Global pension allocations to VC have edged up to an average 7.0% of portfolios in 2021, from 6.2% in 2017, Preqin data shows.

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“We’ve yet to see a slowdown in fundraising,” says Brian Rodde, co-head of private equity at Makena Capital Management, in an interview.

The sheer amount of financial firepower sitting dormant suggests that a large amount of VC-funded initial public offerings is coming, which of course hinges on a reversal of investors’ now-diminished appetite for the stock market. The S&P 500 is down 7.3% this year. The number of U.S. IPOs plunged about 81% last quarter, compared with 2021’s comparable period, per Dealogic.

Meanwhile, private valuations have shrunk. Stakes in pre-IPO venture-backed companies, whose last financing round was in last year’s second half, dropped an average of 60% from their previous level, by the estimate of Manhattan Venture Partners. That might involve simply blowing off some excess. “Capital markets had been running too hot,” Rodde comments.

One example: Grocery delivery provider Instacart, a VC-supported business, sliced its internal valuation by 40% in March, PitchBook notes. That fall roughly tracks that of publicly traded rival DoorDash, whose stock tumbled 48% over the past half-year.

The current VC situation, where exits are scarce, appears to be a hiccup, to listen to VC experts. Compared with previous venture slumps, valuations are still on the high side. The scale of companies and the revenues they generate is far greater today than in past down cycles.

VC has a lot of potential, once the stock market improves and IPOs return, he says. “However, even in this current market environment, the absolute best companies might raise up-rounds at higher valuations.”