Dec. 17 (Bloomberg) -- Merrill Lynch & Co., the securities firm that reported a record $2.24 billion third-quarter loss, told fixed-income managers to cut 2007 bonuses by an average of 40 percent, according to two people briefed on the matter.

Payments may fall by as much as 80 percent for traders who specialize in the mortgage bonds and collateralized debt obligations that posted the steepest losses, said the people, who declined to be named because the decisions aren't public. Bonuses may drop 20 percent for interest-rate traders and 60 percent in the New York-based firm's corporate bond unit, the people said.

Chief Executive Officer John Thain, who joined Dec. 1 after the ouster of Stan O'Neal, said he will reward good performers while cutting payouts for people who caused losses. He has to placate investors by trimming wages while making sure the most valuable employees don't leave, said Russ Gerson, head of New York-based recruiting firm Gerson Group.

On Wall Street, ``they expect to get paid more every year,'' Gerson said. ``When that doesn't happen, people get upset.''

Thain and David Sobotka, who leads Merrill's fixed-income division, declined to comment through spokeswoman Jessica Oppenheim. Sobotka succeeded Osman Semerci after he was dismissed on Oct. 3 together with Dale Lattanzio, the firm's top fixed-income trading executive in the U.S.

The pay reductions were reported by CNBC on Dec. 14.

Merrill, the biggest U.S. brokerage, won't notify employees of their pay awards until early January. Managers are being told the size of bonus pools so they can decide how to apportion the money, according to the people briefed on the matter.

`Taking Enough'

``Paying the people who perform well and taking enough money from the people who caused some of the problems, that is going to be one of the first topics I address'' as Merrill CEO, Thain said in a Nov. 15 interview.

In the nine months through Sept. 30, Merrill's total compensation fell 15 percent to $11.6 billion, as revenue declined 23 percent to $20 billion, according to the company's most recent quarterly report. Even stock traders and investment bankers who generated profit gains this year may get little or no bonus increases, the people said. Payments, typically a mix of company shares and cash, may contain a higher proportion of stock this year, they said.

Merrill fell 84 cents, or 1.5 percent, to $56 at 10:10 a.m. in New York Stock Exchange composite trading. The shares had dropped 39 percent this year through Dec. 14. Among the five biggest U.S. securities firms, only Bear Stearns Cos. has fared worse, declining about 41 percent.

Komansky's Cuts

Compensation is the biggest expense for Wall Street firms, and bonuses typically account for about 60 percent of total pay. Last year, when Merrill's revenue climbed 33 percent to $34.7 billion, compensation rose 37 percent to $17 billion. The firm had 64,200 employees as of Sept. 30, up from 56,200 at the end of last year, according to company filings.

Merrill's revenue is forecast to drop 18 percent this year to $26.8 billion, based on the average estimate of 13 analysts in a Bloomberg survey. That would be the biggest decline since 2001, when the firm, then run by CEO David Komansky with O'Neal as president, slashed more than 14,000 jobs. That year, total compensation dropped by 18 percent.

Merrill's wage bill this year may fall about 10 percent to $15.2 billion, Bank of America analyst Michael Hecht estimated in a Dec. 4 report.

Nowhere to Go

Thain may be betting that employees are getting few job offers from rival Wall Street firms, Gerson said. UBS AG, Citigroup Inc. and Morgan Stanley also have dismissed top executives because of losses linked to home loans.

``There's no reason to pay big bonuses to everybody when the general perception or belief is that there are not going to be opportunities to leave,'' Gerson said.

Merrill last month agreed to pay Thain at least $44 million in stock and cash, partly to compensate him for pay he left behind in his previous job as CEO of NYSE Euronext.

O'Neal, who got no severance, took home $161.5 million related to bonuses and pension payments earned in prior years.

To contact the reporter on this story: Bradley Keoun in New York at bkeoun@bloomberg.net.

Last Updated: December 17, 2007 10:13 EST