merrills creates incentive scheme aimed at improving the outperformance of fund managers but with limits to stop recklessness
Merrill Lynch Investment Managers (MLIM) has introduced a remuneration system for fund managers designed to boost incentives to deliver outperformance.
The scheme calculates annual bonuses according to assets under management, relative fund performance and value generated for MLIM.
While basic salaries have remained in place, more than 50% of fund managers' income typically comes from annual bonuses.
Charles Prideaux, head of equity products for MLIM EMEA Pacific, said the most important part of the new scheme is that bonuses are linked to outperformance over one, three and five years, against an agreed sector median.
'It aligns the interests of the people running the money with the people they are running it for. If a fund manager performs badly, he gets no bonus,' said Prideaux.
The aim is not for absolute performance but to keep MLIM funds in the top quartile, he added. In order to prevent managers taking unacceptable risks in pursuit of performance, the portion of the bonus linked to performance is capped so that gains do not keep growing beyond a certain level of outperformance.
'You can shoot the lights out over one year, but our clients want consistent performance,' he said.
The second element is linked to the amount of income that MLIM derives from fees on the managers' funds.
Although retail portfolios are generally smaller than institutional ones, their higher fees mean managers will still have an incentive to deliver strong performance, Prideaux said.
There is also a discretionary element to the bonus system, which is designed to reward managers that add value in other parts of the business than their own funds, such as sharing ideas and research with other managers.
Despite the discretionary element, Prideaux said the scheme is much more transparent than the group's previous method of calculating bonuses and so is more likely to motivate managers to outperform.
MLIM has also been reviewing benchmarks and peer groups for its retail funds. 'We aim to be top quartile over three and five years, and part of that is being on top of developments in the universe the fund is operating in,' Prideaux said.
Michael Jones, managing director of UK third-party and retail business at Merrill Lynch, said many IMA sectors are 'sloppy' and so the peer group is sometimes a subset of the official sector.
Merrills is also moving to merge its American Smaller Companies institutional fund into its American Opportunities retail fund during the second quarter of 2003, subject to regulator and shareholder approval, to remove duplication.
Both funds are run by Ron Zibelli out of Princeton, with very similar mandates and more than 90% correlation between their portfolios, Jones said. Both are rated A by Standard & Poor's and are benchmarked against the Russell 2000 index.
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