14.1.2 Risk-sensitive performance criteria

Investment firms should set and document both quantitative and qualitative, including financial and non-financial, performance criteria for individuals, business units and the investment firm. The performance criteria should not incentivise excessive risk taking or mis-selling of products.

Investment firms should use an appropriate balance between quantitative and qualitative as well as absolute and relative criteria.

The criteria used to measure risk and performance should be linked as closely as possible to the decisions made by the identified staff member and the category of staff members subject to the performance measurement and should ensure that the award process has an appropriate impact on staff’s behaviour.

Performance criteria should include achievable objectives and measures on which the identified staff member has some direct influence. When assessing performance, the effectively realised results and outcomes should be measured.

Quantitative criteria should cover a period which is long enough to properly capture the risk taken by identified staff members, business units and the investment firm and should be risk-adjusted and include economic efficiency measures. Investment firms should also use performance criteria for the assets they manage. Examples of quantitative performance measures used in the asset management sector which fulfil the abovementioned provisions are the internal rate of return (IRR), earnings before interest, taxes, depreciation and amortization (EBITDA), Alpha Ratio, absolute and relative returns, Sharpe Ratio and assets raised.

Operating efficiency indicators (e.g. profits, revenues, productivity, costs and volume metrics) or some market criteria (e.g. share price and total shareholder return) do not incorporate explicit risk adjustment and are very short-term and therefore not sufficient to capture all risks of the identified staff member’s activities. Such performance criteria require additional risk adjustments.

Qualitative criteria (such as the achievement of results, compliance with strategy within the risk appetite and compliance track record) should be relevant at an investment firm, business unit or individual level. Examples of qualitative criteria are the achievement of strategic targets, customer satisfaction, adherence to risk management policy, compliance with internal and external rules, leadership, team work, creativity, motivation and cooperation with other business units, internal control and corporate functions.