The 2016 Hedge Fund Compensation Report: The Market Strikes Back

Poor returns last year took a bite out of paychecks, with average total compensation for all investment professionals at hedge fund firms falling 6.1 percent year over year, fueled by an 8.3 percent fall in average bonuses.

Illustration by Neil Webb

Not since 2011, when Occupy Wall Street was in full bloom, has hedge fund compensation been such a hot issue. U.S. presidential candidates have recently found hedge fund managers useful as poster boys for income inequality and have called for tax hikes to lower their often-munificent annual compensation. But turbulent global markets may have done more to reduce hedge fund pay than all the speeches in the world.

It's been a difficult period for many hedge fund firms. Returns have been mediocre over the past few years, and although hedge funds got a chance to redeem themselves in 2015, when volatility swept global markets, causing energy prices to plunge and currencies, stocks and bonds to whipsaw, most firms failed to profit from the kind of markets hedge funds were invented to exploit. Instead, in 2015 the HFRI Fund Weighted Composite Index fell 1.12 percent, its worst year since 2011.

Poor returns took a bite out of paychecks. According to Alpha's 2016 Hedge Fund Compensation Report, average total compensation for all investment professionals at hedge fund firms dropped 6.1 percent year over year, fueled by an 8.3 percent fall in average bonuses. "Bonuses have decreased in general with the market drop," says Helena Peszek, a manager at Chicago-based executive search firm First Temporary, adding that firms with high exposure to the energy sector got hit the hardest.

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According to Kate Quinn, New York-based head recruiter for front-office personnel at Fort Lauderdale, Florida-based Ascendo Resources, hiring has picked up the most in some of the strategies that fared the worst, as candidates who can excel under current market conditions have become even more valuable. For example, in a world awash with quantitative easing and low to negative interest rates, portfolio managers with an aptitude for macro and credit strategies should have no trouble finding work.

Chief investment officers and senior portfolio managers surveyed by Alpha saw their bonuses cut by an average of 10.2 percent and 22.3 percent, respectively. But Quinn says most hedge fund hiring these days is focused on senior positions. With the tougher market environment, firms are trying to strengthen their teams with veteran investors who have proven track records of success. "The big demand right now is someone who's run more than $100 million with a highly liquid, nondirectional and scalable strategy and has a hard P&L of over $20 million," says Quinn. "With the clients I'm working with, I could basically post every job the same way because that's what everyone's looking for."

Ascendo's customers include some of the biggest names in the hedge fund industry, such as Graham Capital Management, Millennium Management and Tudor Investment Corp. While conducting a search for a leadership position at Tudor, Quinn asked founder Paul Tudor Jones II to name his biggest concern. "The first thing out of the guy's mouth was 'Listen, I have 300-plus families to consider here. I don't want some guy coming in and blowing up the game,'" she recalls.

Last year 979 funds closed shop, up from 864 in 2014, making 2015 the worst year for liquidations since 2009, according to data from Chicago-based Hedge Fund Research. The fourth quarter of 2015 had the fewest new hedge fund takeoffs since 2009, with only 183 launches, down from 269 the previous quarter. "The game of musical chairs continues, and there's just fewer seats," says John Carley, president of New York-based executive search firm A-L Associates.

With fewer funds launching to absorb laid-off workers, competition in the job market applies downward pressure on salaries, Carley says. Chief investment officers and senior portfolio managers both saw slight declines in their average base salaries of 0.52 percent and 0.69 percent, respectively.

Less-than-stellar performance also makes life harder for marketers. Investor relations and business development officers saw their total compensation drop 6.3 percent. Ascendo's Quinn sees salespeople losing out based on performance they can't control. "And they go out and sell snow to an Eskimo," she says. "Whether performance is good or bad or flat, these guys are doing their jobs."

Some noninvestment professionals saw sizable gains, continuing a trend visible in last year's survey. Back-office professionals have been in high demand as regulators and investors have demanded greater transparency and structure in hedge fund operations.

The growing institutionalization of hedge funds is pushing pay for related jobs ever higher. Chief operating officers and controllers who responded to the survey reported about 18 percent higher total average compensation in 2015. "You have to pay them if they're good," says Richard Scardina, a co-founder and partner at Atlantic Group, a New York recruiter. "If you've got a controller or a CFO or an operations person and they're very good at their job, you have to pay them because there are many funds that will today."

Increased transparency standards and reporting requirements are driving the bottom line, says A-L Associates' Carley. To meet higher standards of transparency and risk management, firms have begun to adopt more-formal organizational structures and stronger corporate governance practices. "Everyone's worried about being scrutinized and appearing at all on the edges of wrong," Ascendo's Quinn explains.

As a result, many firms have become more selective in the hiring process and added new hurdles that applicants must meet. For example, personality tests to assess integrity and leadership style are becoming commonplace in the wake of the 2008-'09 global financial crisis and various trading scandals. "Everyone's watching out for the next London Whale," says Quinn, referring to a derivatives trader who lost billions of dollars at JP Morgan Chase & Co. in 2012.

To improve fund oversight, hedge funds are bulking up staff in accounting, cash management and compliance; those roles are typically less dependent on firm performance. Total compensation for chief financial officers rose 3.2 percent last year. "Good CFOs are pretty happy these days," Quinn says.

Fundamental changes at global banks have forced more hedge fund firms to take on new functions. The banks have been deleveraging, capital on balance sheets has grown increasingly scarce, and prime brokers have shed clients. As a result more hedge funds are cutting out middlemen and, in particular, establishing their own treasury management capabilities. "We're seeing a lot of funds bring a treasurer in-house, or at least someone with basic cash management experience, whether it's straight repo experience or FX hedging," says Atlantic Group's Scardina. "We've definitely seen an uptick in that in the past 12 months."

But recruiters agree that technology continues to be the hottest area for recruitment and one of the most difficult in which to make good hires. "Our information technology group is extremely busy, from technology support to programmers and everything in between," Scardina says. "Honestly, we can't hire people fast enough to support all these shops that we get in."

Funds that built their strategies around technology -- such as Chicago-based Citadel, which ended the year up 14 percent -- tended to have a smoother ride in 2015 than many of their peers.

Competition for talent is steep, however. Over the past few years, Silicon Valley technology giants like Alphabet (the parent of Google), Apple, Facebook and others have lured talent from Wall Street. "The brainpower has definitely been migrating to Silicon Valley and tech start-ups," says A-L Associates' Carley.

Although higher compensation remains the best way to attract top talent to hedge fund firms, 2016 isn't shaping up to be much better than last year -- and it could be worse. In aggregate, the $3 trillion industry had its worst start to a year, in terms of performance and client withdrawals, since 2009. New York-based Third Point founder Daniel Loeb, not one to mince words, called the current market climate a "killing field" in his firm's first-quarter letter to investors. "There is no doubt that we are in the first innings of a washout in hedge funds," he wrote.