Bonuses will be down. The real question is, by how much?

We're not the only ones predicting this year's bonuses won't measure up to last year's.

Jonathan Said, a senior economist at the Centre for Economics and Business Research (CEBR) was quoted on Reuters last week predicting bonuses will decline anywhere from 10% to 25% on 2006. Search firm Options Group issued a bonus warning, predicting an overall drop of 5% in bonuses globally – and Aiden Kennedy of search firm Christian and Timbers was quoted in last month's Financial Times predicting a reduction of 25% in particularly bloody areas such as CDOs.

On all but a few trading desks where pay is a percentage of profits, bonus bigness is down to three factors: meeting and exceeding your own revenue or profit target, meeting and exceeding your department's target, and meeting and exceeding targets for the bank as a whole.

On the first and second measures, headhunters say plenty of people are doing well. "A lot of people in FX have significantly exceeded their targets," says Neil Price, managing director of foreign exchange recruitment specialist Michael Williams Associates. "We have spoken to people in equities who made their annual budgets months ago," says Alex Tracey, a headhunter at search firm Clifden Partners. "A lot of credit people had reached 80% of their budget by halfway through the year," he adds. "But they gave 30-40% of their annual budget away in July and August. They are now concerned about their bonuses and future job security."

Robbing Peter in FX to pay Paul in leveraged finance

At the heart of the issue is just how much healthy areas such as FX will be made to cross-subsidise sickly businesses like leveraged finance and structured credit. And this depends upon whether banks feel the need to keep leveraged financiers and structured credit professionals happy.

A leveraged finance headhunter says there's a feeling that leveraged finance staff need to be kept onside (not great news for everyone else, given that JPMorgan alone is forecast to lose around US$1.4bn on leveraged loans). "There's confidence that the leveraged finance market will stabilise at some point – probably in the first or second quarter of next year, which means there will be some defensive bonus payments to key people," he adds.

3Q bad, 4Q worse

The final bonus determinant – banks' overall profitability – will become clearer in the next couple of weeks as US firms announce third-quarter results. Although the full extent of losses may not be apparent until the fourth quarter, headhunters say 3Q figures will be carefully studied as indicators of the extent of the pain.

Before the crisis hit, Simon Hall, global managing partner of financial services at Heidrick & Struggles, says several firms had already met their budgets for the year, while others were on their way to meeting ambitious 2007 targets: "It all depends now on whether there are more ambitiously-priced deals and bad investments that will be revealed before year-end."