Bonuses: It's 2009 That Will Hurt More
A: This is Manhattan real estate, and this is wall street bonus season. When it comes to wall street bonuses, we must understand one thing: REVENUE vs INCOME. Bonuses are generally calculated using generated revenue, not income, which leads us to what happened in 2007! For the first half of 2007, revenues generated by the investment banks, brokerages, trading desks, and banks were very high! Then came the meltdown in mid July starting with the ABX indices signaling distress in the credit markets. Within a few weeks Bear Stearns started the credit crunch wave by announcing the failure of 2 funds. That is when the credit & secondary mortgage markets changed drastically. My point, bonuses will be granted this year; its 2009 that we will have to worry about!
When I first starting trading equities professionally in 1998, stocks were listed on exchanges in fractions. What I mean is, the level 2 trading quotes that the trading software accessed showed bids and asks in fractions. For example, when EBAY was trading around $100 a share, the bid would be say 99 3/4 and the ask would be something like 100 1/8. The spread between the bid/ask was 3/8's (often spreads got as low as 1/6 or teenies as we used to call them). This spread, wider as a result of the equity trading in fractions, opened up the opportunity to trade and exploit the spread. It also made stock movements much more volatile, and as a trader, volatility is a very close friend!
Then came decimalization around 2002 I believe, can't remember. Stocks no longer traded in fractions, and instead started trading in dollars & cents. So, that same EBAY trade that I described above would now have a bid / ask more similar to say 99.98 x 99.99, giving us a penny spread. With spreads so tight, stocks just didn't move the way they used to; and a crash from the dot com bubble didnt help either. The game was over in my mind!
Back to the discussion so I can relate the analogy. The derivatives trade of securitizing loans and selling them off in pieces on the secondary mortgage markets generated billions in revenue for these banks & brokerages. Now that the housing bubble popped nationally, risk has been re-priced, secondary mortgage markets are not functioning properly, liquidity dried up for mortgage backed securities, and the announcement of billions in losses and potential insolvencies, THE GAME IS OVER! How will these banks and brokerages generate the kind of revenue that they got used to generating the past few years?
Now, 2007 still saw at least 4-6 months of great revenue before the sh*t hit the fan and the game ended. The game is not coming back for a long time folks. So, looking ahead to 2008, we must wonder about the hit to generated revenue that these guys are going to take. And with a hit to revenue for a full 12 months, comes a hit to bonuses; 2007 was only 6 months of trouble, 2008 will be 12 months.
Which brings us to maintaining talent. As Goldman Sachs prepares to take over the world after being on the short side of the mortgage backed securities trade, competing brokerages and investment banks will be forced to pay out bonuses this year to keep their talent in house or risk losing them to the sharks!
From an anonymous insider I keep in touch with:
Looks like the real bonus cutting will be next year since banking revenues were so high in the first part of 2007 and the bonuses are calculated off revenue - not income. "Ultra-Luxury" retailers are still reporting good numbers for Christmas even though the same people who are doing the spending are saying they expect bonuses next year to be down significantly.Which brings us to the conclusion. Not only will 2008 prove a very difficult year for these guys to generate revenue anywhere near years before the credit crisis hit, but we are about to head into a period of layoffs as efforts to cut costs and restructure the company is a must to restore investor confidence and bully the stock price.Some of the banks started paying a bigger percentage of revenues as bonuses to try and keep up with Goldman - in the past they were paying 40-50% but it's up 10-20% in some cases. That can't last for long. Investors must be furious. They will have to cut headcount to get that "% of revenue" number back down.
In my opinion, its next year's bonus season that will prove to be much less than expected as generated revenue is way down in this post-credit crunch world. Add in the fact that job losses are inevitable, and you start to think reality rather than fantasy. I'll leave it up to you to relate this scenario to wall street, the economy & New York City housing.
I welcome any comments regarding this topic, especially from those working at trading desks, investment banks, & brokerages!
Comments (17)
Love the blog Noah, been reading since almost 1.5 years ago. Anyway, some of my friends work in financial services and the sentiment among them is that there will be rounds of restructuring coming in the next few weeks. Banks are looking to layoff in the next few weeks, so they can avoid paying bonuses. I think Citi will see the worst, and probably will announce some kind of restructuring program (just my guess).
A good website to look at banking bonuses and other related topics is http://www.wallstreetoasis.com/
Posted by anonyomous | January 2, 2008 10:16 AM
anon - thanks for reading and commenting! yes, I am hearing exactly the same thing. The next few months will be a brutal wake up call as layoffs are announced. I worry this sentiment will really affect sales here in manhattan for this bonus season, but thats just me.
Too much worry out there and nobody's job is safe!
Thanks for the website, I'll check it out.
Posted by Noah | January 2, 2008 10:18 AM
What about Commodity traders...they might have a good year. Bonuses will be decent for Gold / PGM / ENERGY traders... lets hope!! NEW HIGH GOLD today..., by the way.....There will be more commodity trading desks and funds than before on Wall Street ???? I know this won't compare to the kind of Revenues your talking about but might help a little..Still bullish NYC for now, in the long run..especially Lower manhattan..
...spent New years eve at Cipriani's New Downtown building ( 55 Wall Street I think ) area is looking good..best New Years eve party in the city this year...(ok arguably) The area is looking good...!!
Noah....Happy New Year and good luck in 2008!!
Rgds
J
Posted by johnny | January 2, 2008 11:43 AM
johnny - great point!! Im sure there are other dept's that did very well in 07 and will continue in 08!
Happy New Year too you too and thanks! Good luck to you as well
Posted by Noah | January 2, 2008 11:59 AM
I work at one of the bigger brokerage firms and I will tell you layoffs are a big concern around here. Citigroup will be the first big bank to announce layoffs and word is it will be big.
As for my bonus, I didn't get it yet but I certainly expect it to come in lower. I do own a property so I am not in the market to buy or sell, but I am concerned about my job security.
I figure that if I am still around come May, then I got spared. But everytime I talk to my co-workers, I can't help thinking whether they will still be here in a few months.
Posted by anon | January 2, 2008 1:53 PM
anon - thx for comment. Would love if you can stop by after the bonus and let me know how it went. Trying to gauge it if people are willing to share!
Posted by Noah | January 2, 2008 2:54 PM
I happen to work in the credit markets, at one of the big banks mentioned here. Without a doubt people are expecting a lower amount this year within the Fixed Income world. But of course there are some who are in in major denial...I'm not looking for the hard 10 by any means, I would be very happy with a "YO!" (11 for you craps players). Personally, I am holding off my buy search until I at least get my numbers.
Posted by Eric | January 2, 2008 4:08 PM
Not sure if this was seen/commented on before...
http://www.nytimes.com/2007/12/30/realestate/30cov.html?_r=1&ref=realestate&oref=slogin
Posted by Eric | January 2, 2008 4:11 PM
yea I read that few days ago..I dont think its anything of concern. Of course some will want to cash out and buy more house, but most people dont fit into that category!
Plus, most buyers/homeowners here want to live here. I dont think this will be a trend that will hurt our buyer pool. Job losses, affordability, confidence, distressed sellers, etc. all play a much larger role.
thx for providing link for readers!
Posted by Noah | January 2, 2008 4:14 PM
great post Noah, but i would consider the inability to package and resell mortgage as more analagous (spelling?) to the end of using bullish research to reel in banking deals than to the decimilzation of stock...I was trading in 98 too and by 2002, we were just happy stocks were still trading at all...the dow was around 7200 by October, we could live with the decimals!
Losing the rev's from packaging f'ed up loans will hurt, but a company the size of Citi could lower headcount JUST BY NOT HIRING! they hire 30k people globally a year or something absurd like that...they could do a combo layoff and hiring freeze in certain segments and preserve decent bonuses for the trading desk and futures guys
great post
Josh from cityhammer
Posted by Josh | January 2, 2008 7:14 PM
I believe that even if an employee gets laid off in early 2008, he/she will be entitled to his/her bonus from 2007...this happened to me in 2003...was laid off end of dec 2003 but got my full bonus.
Posted by michael | January 3, 2008 9:07 AM
Noah,
Your posts are always fascinating: especially the way you tie economic data to the particulars of the New York housing market. Keep writing!
Two questions:
From a very general perspective, because of slim bonuses from the banking industry, how much reduction do you anticipate in the housing market?
And if you do see downward trends in the median price of homes in Manhattan, how long do you think it will last?
The reason why I ask because as a wage earner, the only way I can afford to buy in Manhattan is to save. After taxes, 401k, etc, there isn't much left over to put into an interest bearing account for the $200,000 necessary for a down payment. So it is slow going.
But your article gives me some hope because what your saying is that a group of high income New Yorkers won't receive big enough bonuses for to afford new homes. Perhaps the Tortoise can finally beat the Hare.
Thanks again
Posted by Ron | January 3, 2008 9:17 AM
michael - true, but Im more concerned about 2009's bonus pool being lower because 2008 revenues will be significantly lower than in years past! Job losses are separate issue.
Posted by Noah | January 3, 2008 10:04 AM
Ron - Thx. Here are my answers.
1. I really dont expect much of a decline in 2008; maybe 2-5% when all is said and done. We still have no inventory, and that has to reverse if we are to have any significant decline in prices. 2009 may be a different story if we dip into a recession in 2008.
2. Hard to tell. I dont see it yet with exception of distressed sellers that must sell quickly and has to lower price to move property. Overall, if we do have a downtrend, it will probably last a few years since there are aspects to the down cycle that must play out. However, the length of any downtrend will be more tied to severity of economic downturn and when we recover.
Posted by Noah | January 3, 2008 10:07 AM
I keep asking the question, about inventory, where are all the apartments that never seem to hit the listings, on streeteasy or nytimes.com? Numerous large building have had very few ( Avonova, Gramercy Starck, Kalahari, to name a few) apartments listed on streeteasy or the New York Times, other buildings out there have a lot of units that have not been released. That, in reality, is inventory that's not counted. Not including an apartment in the market until it sells and the release patterns also seem to me like blatant manipulation of the time on the market figures. At some point it seems as if all of this will start to impact the market, particularly as these buildings start closing and will be needing to meet repayment schedules to banks.
Also, in many buildings, particularly downtown, you can rent one of the new condos for about $5800, when the cost to purchase is often $8500 a month or more.
Posted by Brenda | January 6, 2008 6:19 PM
A few comments on the post and on the previous comments:
-Decmilization started on Febnruary 6, 2001. I rue that day. It was dark. It was evil. It was nauseating.
-My feeling is, even if we do have losses in jobs and reductions in bonuses, we will not see a price reduction in Manhattan, because the supply of 2 bedroom and larger apartments will not increase enough to justify a borad-based price-drop.
-Finally, as to the comment about inventory that we never see...this one has been baffling me since I started to look into buying in Manhattan. Great apartments trade and never seem to be advertised to the public. What am I missing?
Posted by More Cowbell | January 6, 2008 7:43 PM
great point Brenda! There certainly are some flaws in the datasets due to this phenomenon.
Cowbell - wow, Feb 2001, has it been that long! Man that was a crazy time. I do disagree with your point regarding job losses. Its just that the correlation is not direct and will take time. If we have job losses, negative wealth effect, and affordability problem that usually comes when job losses become an issue, than you will start to see sales volume slowing and listing activity increasing. Think about those who dont have job concerns, but know its coming and may want to cash out because they turn negative on the market in general for near term (1-2 years)?
Herd like mentality. Its just that the action (job losses) needs to come first, then it will change psychology, etc. etc. until ultimately the inventory levels will increase. There may be 8-12 months between the layoffs and significant inventory build, but it will happen.
Posted by Noah | January 7, 2008 12:18 PM