Swinging for the Fences: Executive Reactions to Quasi-Random Option Grants
University of Chicago - Booth School of Business
Richard R. Townsend
Dartmouth College - Tuck School of Business
September 23, 2013
Chicago Booth Research Paper No. 13-03
The financial crisis renewed interest in the potential for pay-for-performance compensation to affect managerial risk-taking. We examine whether paying top executives with stock options induces them to take more risk. To identify the causal effect of options, we exploit two distinct sources of variation in option compensation that arise from institutional features of multi-year grant cycles. We find that a 10 percent increase in the value of new options granted leads to a 2-6 percent increase in firm equity volatility. This increase in risk is driven largely by an increase in leverage. We also find that an increase in stock options leads to lower dividend growth, with mixed effects on investment and firm performance.
Number of Pages in PDF File: 58
Keywords: Executive compensation, Incentives, Risk-taking, Pay-for-performance
JEL Classification: M52, J33, G32, G34working papers series
Date posted: February 6, 2013 ; Last revised: September 23, 2013
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