If performance isn't a factor in your PMs' compensation, you might want to add it.

John Rekenthaler Morningstar, Inc. Vice President, Research

In his latest "Rekenthaler Report" column, Morningstar guru John Rekenthaler highlights new research that found that U.S. mutual funds with PMs compensated based on performance "exhibit superior fund performance," to the tune of 50 basis points a year. Linlin Ma of Northeastern, Yuehua Tang of Singapore Management University, and Juan-Pedro Gomez of IE Business School penned the 59-page paper, "Portfolio Manager Compensation in the U.S. Mutual Fund Industry".

Rekenthaler is skeptical of, and surprised by, the researchers' findings. He opens his column with the following quote from Yankee's manager Bill Martin:

Well, you got your mules and your got your racehorses, and you can kick a mule in the ass all you want, and he's still not gonna be a racehorse.

Rekenthaler notes that 77 percent of funds offer performance bonuses to PMs. Performance-based compensation, then, is the pervasive norm, so he wonders if it is the lack of such bonuses that really matters.

"Perhaps their absence signals that a fund company is second-rate," Rekenthaler muses. "As with a substandard 401(k) plan, or poor health-care insurance, a salary offer that falls below the industry's best practices might lead to dispirited workers, as well as the inability to recruit top candidates."

So Rekenthaler observes that "it appears that if you kick a fund-manager mule, he responds by becoming a slightly faster mule." So, remember to kick your PMs ... with performance bonuses, of course. 

Edited by: Neil Anderson, Managing Editor


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