Banking and Finance Law Daily Wrap Up, DIRECTORS, OFFICERS AND EMPLOYERS—Better Markets weighs in on proposed deferred compensation rule, (Sep 5, 2024)

By Steven Melendez

The organization not only wants more agencies to join the proposal, but also wants to see stricter terms around “clawback” provisions.

Better Markets has submitted comments on a proposal by federal financial regulators to set rules for incentive-based compensation at financial firms, designed to avoid incentivizing potentially harmful risk-taking. The organization applauded certain aspects of the proposed rule, called for some stricter provisions, and urged the Securities and Exchange Commission (SEC) and the Federal Reserve to join in the rulemaking effort.

“Financial executives and traders regularly pocket million-dollar bonuses," said Shayna Olesiuk, director of banking policy at Better Markets, in a statement. "The prospect of unimaginable and immediate riches, however, often results in those executives and traders taking excessive and unjustified risks. The executives and traders benefit from immense upside when they win, while individual financial institutions, the financial system, and Main Street Americans are exposed to downside risk and enormous financial losses when they lose."

The Dodd-Frank Act called on a group of six federal agencies—the SEC, the Fed, the Federal Deposit Insurance Corporation, the Office of the Comptroller of the Currency, and the Federal Housing Finance Agency—to jointly set policies for incentive-based compensation at big financial institutions. The agencies were supposed to have done so within 9 months of the law's enactment in 2010, but rulemaking efforts begun in 2011 and 2016 failed to bear fruit.

The current version of the proposed rule thus far essentially is a revival of the 2016 proposal, though the SEC and Fed have yet to announce their participation (see Banking and Finance Law Daily, May 7, 2024). "Regardless of the reasons, the bottom line is that the financial regulators must act in the interest of the American people and finalize incentive-based compensation regulations," Olesiuk said.

In July, Sen. Elizabeth Warren (D-Mass.) also critiqued the Fed for not having acted on the issue (see Banking and Finance Law Daily, July 26, 2024).

In its Sept. 4, 2024, comment letter, Better Markets also urged regulators to tighten some of the law's requirements. The organization argued that provisions calling for compensation clawbacks should be expanded beyond misconduct to include other scenarios where risk-taking leads to harm, even if it doesn't rise to the level of formal misconduct. The group also said financial institutions should be required to exercise their clawback rights while appropriate, rather than just reserving themselves the option in compensation agreements.

Better Markets also called for longer vesting periods for incentive-based compensation than the minimum four years in the proposal. Six years would be closer to the standard length of a "business cycle," the group argued, citing studies that Better Markets indicates found longer deferral periods improve business performance and cut risk exposure.

Additionally, rather than a prorated fraction of compensation being allowed to vest each year, as specified in the current proposal, Better Markets argued that all of the compensation should be vested at the end of the deferral period. Under the current proposal, risk-taking employees may have already received much of their incentive compensation by the time issues come to light, the group argued.

"In short, when the institution is best equipped to assess the executive’s contribution to excessive or inappropriate risks, the compensation is already vested," according to Better Markets.

The group also suggested eliminating stock options from incentive-based compensation, since they can incentivize risk-taking to boost stock prices. The current proposal would allow no more than 15 percent of incentive compensation to be in the form of stock options.

And while the current proposal would prevent financial institutions from buying hedging instruments on behalf of employees to protect them against a drop in incentive-based compensation, Better Markets argues that employees also should be banned from such hedging. "The effectiveness of measures such as deferral periods, downward adjustments, and forfeitures will be largely blunted if senior executive officers and significant risk-takers can essentially guarantee themselves the rewards of incentive-based compensation regardless of the impact that their conduct may have on the value of that compensation," the group argued.

Companies: Better Markets

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