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finanzmaster


Total Posts: 158
Joined: Feb 2011
 
Posted: 2018-06-27 22:40
What is the most fair reward system for a wealth manager?
In theory it is hardly possible to answer this question without oversimplifications.
But in [best] practice?
Feedback is very welcome!
https://letyourmoneygrow.com/2018/06/27/the-fairest-reward-system-for-a-wealth-manager/

www.yetanotherquant.com - Knowledge rather than Hope: A Book for Retail Investors and Mathematical Finance Students

dudzcom


Total Posts: 5
Joined: Apr 2008
 
Posted: 2018-06-28 15:22
You lost me when you wrote "non-unambiguous". Pretty sure this has been proven in various economic papers that it's not possible to build a perfectly "fair" compensation system for wealth managers. Short of it is that if you are managing other people's money within a system of limited risk (to your person), then you can always over-leverage your client's assets, as the upside/downside is asymmetric.

finanzmaster


Total Posts: 158
Joined: Feb 2011
 
Posted: 2018-06-28 18:01
Hi dudzcom,

non-unambiguous was meant in context of high-water mark principle.
Concrete: there is an Austrian startup Wikifolio, which pretends to be genuinely social.
They use high water mark principle, however,
a) charge the fees immediately as a new high was reached
b) reset the highs every year
In particular, for this wikifolio customers paid a fat performance fee and will pay it again if it starts to grow (from very low point) as it did before crash


>Short of it is that if you are managing other people's money within a system of >limited risk (to your person), then you can always over-leverage your client's assets
That is why I affirm that a fund manager must invest a significant part of his wealth in his own fund. Isn't it a practical remedy against hazardous overbetting?

www.yetanotherquant.com - Knowledge rather than Hope: A Book for Retail Investors and Mathematical Finance Students

ronin


Total Posts: 326
Joined: May 2006
 
Posted: 2018-06-29 12:26
> That is why I affirm that a fund manager must invest a significant part of his wealth in his own fund.

TBH, I stand on the other side of that.

When a lawyer needs legal representation, he doesn't represent himself. He hires another lawyer. When a doctor is ill, he doesn't treat himself. He goes to a doctor.

Why? Because there are some things that require professionalism. Being emotionally involved affects your judgment. And when stakes are high, you need somebody who can remain calm and professional. I don't see why that wouldn't apply to wealth managers. If your wealth manager loses you money, fire him and get another one.


"There is a SIX am?" -- Arthur

finanzmaster


Total Posts: 158
Joined: Feb 2011
 
Posted: 2018-06-29 20:24
>If your wealth manager loses you money, fire him and get another one.
There may be no second chance :)
Look at the chart above, this portfolio will hardly recover.

As to lawyers, I am not sure that a good lawyer will go to another lawyer unless the law tells him to do so.
As to doctors, well, the reason is simpler: it is pretty hard to cut off your own appendix.
(however, it was, to some extent, the case at a Soviet polar station: a doctor urgently needed to have his appendix removed and there was no other doctor. So he guided a non-medical guy how to operate)

www.yetanotherquant.com - Knowledge rather than Hope: A Book for Retail Investors and Mathematical Finance Students

goldorak


Total Posts: 1045
Joined: Nov 2004
 
Posted: 2018-06-29 21:41
ronin, I find your argumentation pretty poor on that one, really.

The issue with skin in the game has more to do with respective size. I would be more than willing to risk 2 millions of my own wealth to get 2% fees on 1 billion.... every year.

If you are not living on the edge you are taking up too much space.

ronin


Total Posts: 326
Joined: May 2006
 
Posted: 2018-06-30 10:15
@goldorak, I think you are answering the wrong question.

The question you are answering is "would you invest in your own fund". Sure you would. I am invested in mine. And btw, this isn't limited to finance. The world is full of lawyers who do no-win-no-fee arrangements for a cut of the settlement.

The question is "does that influence your decisions in a way that is better for your clients". And I am not buying that it does.

Historically, it didn't even deter fraud - Madoff was invested in his own scheme, and Skilling was invested in Enron. It doesn't do much for bad risk managemet either - Dick Fuld was heavily invested in Lehman.

I think even your own example proves it. Who ever is asking you to put your own money in is hoping you will be thinking "Geez, I can't afford to lose those 2 mln - I better not take big risks." Or maybe even "Geez, I am retiring on those 2 mln - I better make good returns."

What are you actually thinking? "Geez, 2 mln is a loss leader. But if it brings in suckers who will pay me 20 mln in fees, it's worth it."

QED

"There is a SIX am?" -- Arthur

goldorak


Total Posts: 1045
Joined: Nov 2004
 
Posted: 2018-06-30 12:33
Quickly, because I think you are just writing while enjoying your third mojito here... Your thinking is usually a lot more structured than that.

> Historically, it didn't even deter fraud - Madoff was invested in his own scheme, and Skilling was invested in Enron. It doesn't do much for bad risk managemet either - Dick Fuld was heavily invested in Lehman.

Madoff: I told you: size.
Company managers: they have no choice, they receive shares, and dump them as soon as they can.

You are referring to things I did not write down. You refer to my "own example", but I never mentioned "people asking a manager to put money in their own fund".

Let me put this straight: when a manager has 95% of his own wealth invested in his own cooking, and the net fees he receives directly from the fund are lower than 10% of his wealth, you have a excellent risk management practice. The manager has an incentive to mitigate large losses because he would lose everything and at the same time he has an incentive to produce returns because it is not the fees that are going to make him rich.

If you are not living on the edge you are taking up too much space.

NeroTulip


Total Posts: 1013
Joined: May 2004
 
Posted: 2018-06-30 13:37
Skin in the game is necessary but not sufficient. You will find plenty of overconfident managers who eat their own cooking, and eventually find out they are not great cooks. LTCM, etc...

"Earth: some bacteria and basic life forms, no sign of intelligent life" (Message from a type III civilization probe sent to the solar system circa 2016)

goldorak


Total Posts: 1045
Joined: Nov 2004
 
Posted: 2018-06-30 18:02
Again, size...

If you are not living on the edge you are taking up too much space.

ronin


Total Posts: 326
Joined: May 2006
 
Posted: 2018-07-01 10:42
> I would be more than willing to risk 2 millions of my own wealth to get 2% fees on 1 billion....

> when a manager has 95% of his own wealth invested in his own cooking, and the net fees he receives directly from the fund are lower than 10% of his wealth, you have a excellent risk management practice.

I'm not sure how you square these two up.

Either you are managing other people's money (your money client money, you make fees) or you are mostly managing your own money (your money client money, you make returns).

The business model is very different in those two cases. If you manage client money, you optimize for what clients are buying. Mostly high Sharpe and low beta. If you manage your own money, you optimize for something else - may be lower Sharpe, may be higher beta, but higher something else that you care about but clients may not.

The point that I am making is that various attempts to hybridize these two models don't work. They generate a ton of unintended consequences, and they improve nothing.

Your second example (your money client money, you make returns) looks like nonsense. To manage other people's money, you have to put yourself through a lot - regulation, audit, performance updates, filings, investor relations, marketing, etc etc. Why would do even that to yourself if client fees are a small thing that doesn't really affect you? Most funds that found themselves in that situation got out of the fund business and became prop, and for good reasons.


"There is a SIX am?" -- Arthur

katastrofa


Total Posts: 458
Joined: Jul 2008
 
Posted: 2018-07-01 11:06
@goldorak

"> Historically, it didn't even deter fraud - Madoff was invested in his own scheme, and Skilling was invested in Enron. It doesn't do much for bad risk managemet either - Dick Fuld was heavily invested in Lehman.

Madoff: I told you: size.
Company managers: they have no choice, they receive shares, and dump them as soon as they can."

AFAIK in Lehmans the "company ethos" was that the managers didn't sell those shares, even when they could.

finanzmaster


Total Posts: 158
Joined: Feb 2011
 
Posted: 2018-07-09 12:20
Hello guys,

many thanks to everybody for a feedback.
As to fund size: I agree, it matters. However, there are many not so big funds (about €100 Mio).

www.yetanotherquant.com - Knowledge rather than Hope: A Book for Retail Investors and Mathematical Finance Students
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