UBS Bonus Plan Gives Bankers Incentives to Take Less Risk

From Bloomberg
By Michael J. Moore, Ambereen Choudhury & Elena Logutenkova
February 5, 2013

UBS AG’s plan to pay part of top employees’ bonuses in bonds that can be wiped out will give traders and bankers an unfamiliar incentive: limit risk.

UBS will compensate some workers with contingent capital bonds, which can be written off if the bank’s common equity ratio falls below 7 percent or the company needs a bailout, the Zurich-based firm said yesterday.

The shift satisfies calls by regulators for debt-based pay and helps UBS meet stricter capital requirements, while risking defections among top performers. It may also go beyond pay changes at other companies in tying employees’ rewards to the bank’s safety as UBS exits some businesses and tries to move beyond recent trading losses and low returns.

“It’s hard for people to step out of their worlds and think macro about these institutions,” said Sallie Krawcheck, a former Bank of America Corp. executive who called for bankers to be paid with debt in a Harvard Business Review article last year. “While a trader, an investment banker or a financial adviser might not think about UBS’s leverage ratio, they will think about the message they get from this about the risk tolerance of the company.”

About 500 million francs ($551 million) of bonuses will be paid in contingent capital bonds, which vest after five years. The securities will account for 40 percent of bonuses for executive board members and 30 percent for all other employees with total compensation of more than $250,000…

Bail-In Bonds

Senior bankers should be required to receive some annual bonuses in bonds that would suffer losses during a financial crisis, the European Banking Authority said in December. A “mandatory share” of bonuses for top management should be paid in so-called bail-in bonds, which can be written down when capital dips below a safe level, the regulator said in an opinion on proposals to separate banks’ commercial and investment units.

“A bond has a fixed upside — they don’t get paid any more for taking big risks,” said Frederick Tung, a law professor at Boston University who called for bankers to be paid in debt instruments in a 2011 paper. “If you substitute bond compensation for stock compensation, you essentially steer their incentives toward more conservative strategies.”

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