Mod note: Best of Eddie, this was originally posted on 10/9/12.
Sheila Bair has been making the rounds promoting her new book lately and, by and large, she hasn't said anything that she hasn't been saying for five years now. But one thing she said recently stuck out in my mind and got me thinking about incentives, especially those incentives that relate to banker pay.
There's no longer any question that the compensation structure was largely at fault for some of the ridiculous risks taken during the run up to the subprime crisis. And that's at all levels: from loan originators in strip malls all the way up to Wall Street CEO's. Everyone is talking about banker comp these days ('s James Gorman even says it's still too high) because everyone is afraid of the next major crisis.
So an idea Bair came up with made some sense to me. Right now (post Dodd-Frank) the compensation structure has been changed to reflect a more sober environment: where bonuses used to be mostly cash now they're cash and stock - some bonuses are even majority stock at this point. The thinking is that the bankers will be more interested in the long term success of the bank (and by extension the bank's stock price) if they have some skin in the game. But maybe there's a way to skew it even further toward cautious stewardship.
What if bankers were paid in bonds instead of stock? There's an argument to be made that even a three-year lock-up on selling bonus shares could be circumvented by juicing the stock price temporarily (i.e. taking outsized risk and hoping it works out over 36 months). But if bankers were paid in bonds they'd have an even greater incentive to keep the ship upright and water tight.
I have to say there's some good logic there. While I don't think it's an easy feat to manipulate a stock price higher over the course of three years, I have to admit that paying guys in bonds would remove the temptation altogether.
Obviously this applies more to senior guys, and not much would change at the junior levels. But it makes pretty good sense to me. I'd like to hear an argument against it anyway.
What say you WSO?