Mutual funds whose directors have "skin in the game" significantly outperform their competitors, according to a study by Syracuse University Prof. David Weinbaum. His results confirm the commonly held belief that directors who are invested in the funds that they oversee act as better stewards than directors who don’t have any money on the line.
It’s not the first time Prof. Weinbaum has shown that.
I’m a big believer of "skin in the game" — virtually all of my clients are on a contingent fee — and have written before about how contingency fees reduce frivolous litigation and how third-party investment in lawsuits can level the playing field against well-funded defendants.
So I was happy to read Why Investment Bankers Should Have (Some) Personal Liability at The Harvard Law School Forum on Corporate Governance and Financial Regulation:
We have written a short paper for a symposium on the work of Adolf Berle in which we advocate reintroducing some measure of personal liability for bankers, as was the case in Berle’s day, and indeed up through the 1980’s. We describe in our paper the broad outlines of a proposal to impose some measure of personal liability for a bank’s debts on the most highly paid bankers. The proposal would revive two mechanisms that imposed personal liability in an earlier era: general partnership, which was common for investment banks prior to the 1980s, and assessable stock, which was relatively common in corporations including some commercial banks through the 1930s.
It is difficult to imagine the investment banking business returning to the partnerships of old. General partnership – with the illiquidity and liability it imposes on general partners and the constraints it imposes on a bank’s ability to raise capital – probably will not be considered a viable option. It is also difficult to imagine corporations in the financial services industry issuing assessable stock to all of their shareholders or regulators seeking to require them to do so.
Our objective is to design another way to impose some of the risks of unlimited liability on the most highly compensated managers and other decision makers at investment banks and other financial services and trading firms. We seek to do so without requiring the firm itself to switch to general partnership form or to make any other change in its organizational or capital structure. We discuss below two alternatives, each one based on historical precedent.
We could argue all day about whether the theoretical incentives investment bankers have are good enough to keep them from crashing the whole financial system — a whole cottage industry has developed in the pages of the Wall Street Journal, Forbes and Business Week to do just that. But the facts are undeniable: our banking industry is broken, dangerously so.
I don’t see how we can fix that without giving the bankers some "skin in the game."