I'm writing in regard to Russell Kamp's July 9 article on performance-based fees. I'm glad to see this being discussed again. Performance-based fees are a good idea if the structure is fair and accurate. The last time we tried performance fees they failed because the deals were too one-sided, favoring investment managers. If sponsors want a fair deal, the following terms should be required:
The benchmark must be correct. The S&P 500 was the benchmark for everyone in the last go-around. This was a mistake.
Compensation should be tied to the significance of success, rather than some arbitrary thresholds, like two percentage points above the S&P 500 return. Importantly, peer group rankings should definitely not be used because they are loaded with biases.
Gaming the deal should expose the investment manager to a serious penalty. For example, investment managers should think twice about making big bets away from the benchmark.
Settlement should be annual with a high-water mark if the benchmark is not exceeded.
Sponsors should write the contract accordingly.
How does that strike you?
President, PPCA Inc.
San Clemente, Calif.
Editor's note: Mr. Surz is also president of Target Date Solutions, PPCA's wholly owned subsidiary, also based in San Clemente.