Industry Observers: Compensation Imbalance Between Pension CIOs and Asset Managers Is 'Absurd'

(May, 3, 2011) — A traditional asset manager earning 50 basis points for managing 1% of a $5 billion institutional plan will often make upwards of $50,000 more than the chief investment officer (CIO) overseeing the entire portfolio. Investment consultants and — unsurprisingly — CIOs describe this structure as unjustified.

“It is becoming more difficult for the public sector to compete for talent as the demand for investment professionals with multi-asset class experience continues to grow,” Lee Partridge, San Diego County Employees Retirement Association’s (SDCERA) outsourced portfolio strategist and CIO at Salient Partners, told aiCIO. “The imbalance between a CIO working for a $5 billion plan, earning $200,000 per year and a hedge fund manager hired to manage 1% of the plan’s assets who might garner up to $2 million per year in a 2 and 20 fee structure (assuming a 10% return) is absurd.” According to Partridge, even a traditional manger earning a 50 basis point fee would be paid a $250,000 fee for that same 1% of assets, $50,000 more than the salary of the CIO who oversees the entire plan.

So why the discrepancy?

Some industry observers suspect that CIOs are not grossly underpaid, but that money managers are grossly overpaid, as it takes years to discern whether an investor is skillful. Indeed, as one anonymous asset manager told aiCIO, the need for a third party — money managers — often stems from a lack of trust between pension boards and their CIOs, pushing the fund to outsource to a third party as a form of insurance. This source notes that money managers are able to get away with their high prices because of a lack of downward pressure, with pensions often unwilling to promote fee transparency.

However, others do believe that CIOs are under-compensated compared to the market. “I think for a long time both consultants and CIOs have had compensation that is less than what money managers receive,” Tony Daniel, a senior vice president of investment management at consultancy LCG Associates, told aiCIO. “Fees have been homogeneous for a long time. For whatever reason, CIO and consultant compensation has been lower due to more scrutiny, and as a result, breaking through that ceiling has been challenging.”

He added: “Manager compensation has to be put into context of performance versus benchmarks.  There are a reasonable number of managers that have exceeded their benchmarks over longer periods, and therefore, it is hard to argue that they have been overpaid.  However, long-term data shows that most managers, at least in traditional asset classes, have tended to underperform their respective indices net of fees.  In those cases, it is harder to justify higher levels of compensation.  I think that is a pretty fair way to think about the issue.  In short, if you are adding alpha net of fees, we don’t have a problem with higher levels of compensation.”

Many investment heads say that compensation structures are out of whack because the industry fails to normalize for risk or look at the long-term when deciding amounts of compensation, painting a picture of the current compensation climate as a story of greed and irrationality.

The theoretical argument is supported by recent departures in the public pension space. From the departure of Massachusetts Pension Reserves Investment Management Board’s (MassPRIM) Michael Travaglini to the more recent departure of San Diego County Employees Retirement Association’s (SDCERA) Lisa Needle, examples of investment heads leaving the public pension arena — largely burdened with limited resources, severe underfunding, and volatile boards — for the private sector are numerous. In the latest example of a CIO at a public pension leaving for the private sector: The $25 billion Connecticut Retirement Plans and Trust Funds (CRPTF) CIO Timothy Corbett has resigned to become CIO and executive vice president of the Massachusetts Mutual Life Insurance Company, where he will be in charge of the firm’s overall investment strategy. Another such notable example is the departure of Timothy Barrett, who served as the chief investment officer at the San Bernardino County Employees’ Retirement Association (SBCERA) and now works as Eastman Kodak’s director of pension investments worldwide. In January, Tim Thonis, pension administrator of the Ventura County Employees’ Retirement Association (VCERA) in California, resigned unexpectedly, and while speculators blamed years of failed promises over pay raises, he cited governance as the reason for his departure. VCERA is still left without a CIO.

The issue of compensation has reared its head at other asset owning institutions as well. Endowments, for one, have constantly struggled with internal compensation issues. In 2003 and 2004, the Harvard endowment, then and now the world’s largest, saw internal strife when two bond managers earned bonuses into the tens of millions of dollars. Following student and alumni protests to that effect, Harvard Management Company CEO Jack Meyer and the two managers departed to start Convexity Capital — seeded with Harvard money — topping off years of defections.

“I think that’s why there’s a revolving door,” SDCERA’s Partridge noted. “Smarter people in the public sector get their training – then they go to an endowment and the private sector.”