NEW YORK -- After two difficult years on Wall Street, investors aren't the only ones feeling less prosperous -- some mutual fund managers are also taking home less pay.

Many funds link compensation for management to how well a fund does, a concept that industry observers say has become more relevant as prices of stocks and funds have fallen.

"A couple of years ago, you saw managers being compensated to a greater degree for asset retention or the size of assets they had under management. That has tended to change to a certain degree as assets have shrunk in some funds. So there's more of a focus now on performance when evaluating a manager," said Lawrence Lieberman, managing director at Orion Group, which recruits for the investment industry.

The idea is simple: Tying a mutual fund manager's paycheck to the fund's returns gives the manager even more incentive to make sure the fund performs well.

"The more ... a fund manager's pay reflects a shareholder's interests, the better it is for shareholders," said Russel Kinnel, director of fund analysis at Morningstar, a fund and stock research firm.

The fund company Vanguard measures performance against a stock index that correlates to the stocks the fund holds. The Vanguard Selected Value Fund's benchmark, for example, is the Russell Midcap Index.

"Under our system, a fund's adviser is provided with an advisory fee but it is adjusted based on performance of the fund relative to its benchmark. If the fund performs well against the benchmark, the fee is increased. If not, the fee is decreased," said John Demming, a Vanguard spokesman.

Carrots and sticks

At John Hancock Funds, fund performance also affects bonuses, along with other factors, such as how helpful managers are to colleagues and how much marketing or media interviews they do to promote the fund.

"A performance bonus can be $0 or up to three times a base salary and that is determined by looking at 3- and 1-year returns," said Will Braman, the company's chief investment officer. "I think it's fair ... and it has enough carrot-and-stick to motivate people."

The 3-year timeframe is a common yardstick in many compensation systems because it's considered a long enough period to fairly represent a fund manager's work. A shorter period theoretically could give a manager incentive to manipulate stocks for higher short-term returns at the expense of the fund's longer-term health.

Janus and Fidelity and many of the other big fund companies also consider performance when it comes to compensation.

"The portfolio managers are compensated not only based on performance of their individual funds, but also on the group of funds of which they're a part," said Fidelity spokesman Scott Beyerl. "We believe that aligns the interest of our managers with those of our shareholders and also encourages team work and sharing."

Not all funds

The philosophy is not universal -- not all funds operate this way, particularly those set up by banking or insurance companies. In large part that's because funds at those types of institutions tend to be a secondary focus, rather than the main business. Pay for fund managers is also usually less.

"It's pretty safe to say that the larger fund firms tend to be almost without fail the more creative ones and more willing to compensate on the upside," Lieberman, the Orion Group director, said. "You can safely be a pretty mediocre manger at an insurance company for as long as you want to be in a lot of cases."

Lieberman said he tries to encourage funds hiring managers to somehow link compensation with performance. He recommends firms invest a signing bonus or some other significant amount of cash in the fund the manager will be managing.

"Then at the end of a 3-year vesting period, the manager takes whatever that money has become," he said. "It's usually a win-win for everyone because it shows further commitment by the manager to the fund. And, if at the end of the three years, a manager hasn't shown his or her ability to do what you want, then no one's going to be taken to task for making a change."