Stocks go up, they go down. Never ends, as fund customers are all too well aware.
At one asset management firm near Rochester, New York, the trick is to align the interests of its research analysts with the interests of the customers who are investing based on their findings.
That means one of the 30 equities analysts at Manning & Napier can earn bonuses that can be as much as seven times their base salaries, when the picks are good. But, if their picks are bad, they earn "negative bonuses" that have to be worked off, before any "positive" bonus is put in the bank.
"We really believe that incentive-based compensation is an important part of getting professionals to achieve and you should give them rewards because of those achievements," said Jeff Coons, president of the firm. "I'll go a step farther and say that you really should compensate professionals based on the goals that the client has for you."
About half of the $45.2 billion that the firm manages is invested in lifecycle mutual funds. Here's how the firm gets its analysts incented to reward customers, in order to get themselves rewarded.
To get a bonus on any stock, a recommendation that makes it into a Manning & Napier portfolio must clear two hurdles: an absolute return hurdle and a relative return hurdle.
The absolute return hurdle can be zero. So, if the return in a given time period is negative, no bonus is earned.
The relative return hurdle can be a benchmark such as the Standard & Poor's 500 Index. If the index is going up, then the analyst earns no bonus unless the pick is going up faster than the index. Or dropping more slowly, during a downdraft.
So if the selection is a company such as mobile technology developer Qualcomm, the absolute gain will have to be greater than zero. And the overall gain has to be greater than what Manning & Napier would have gotten by simply investing in the S&P 500.
If both hurdles are met, then the bonus rate, which the company does not disclose, kicks in. And gets applied against the gain. However great the gain is. There is no cap.
Conversely, if there is a loss, the bonus rate also applies. And the analyst can't begin earning a bonus, until that "negative bonus" is overcome.
That doesn't necessarily mean the analyst's bonus gets wiped out, due to one bad year. For a given stock that has been held for three years, the bonus rate gets applied to the gain or loss for three periods: The full three years, the last two years and the current year. Then, the results are tallied up.
If the analyst gets no bonus at all, as a result, the negative amount left over applies toward the next year's similarly calculated bonus. Call it a "negative bonus carry forward."
If the person is still around.
This is no small matter. Bonuses are what drives Manning & Napier staff. Base salaries are modest. Nowhere near the $300,000 or $500,000 peers get on Wall Street firms.
But "our analysts typically earn bonuses that are a couple times their base salary and probably more importantly, we see some touch six or seven times base salary," said Coons.
But the cost of living in Rochester is low, which makes modest base salaries more palatable in tough times. And big employers such as newspaper giant Gannett or one-time photography gorilla Kodak are either gone or a whisper of their old selves.
Besides, the analysts find themselves pretty quickly rowing the same boat, as teammates on the picks. Under the program, each analyst partners with another analyst on each recommendation.
And both their bonuses are attached to that recommendation.