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Too Much Pay Performance Sensitivity?

Ivan E. Brick

Rutgers Business School

Oded Palmon

Rutgers Business School

John K. Wald

University of Texas at San Antonio

May 21, 2010

We examine the relation between pay-performance sensitivity (PPS), the convexity of managerial compensation (Vega), and future stock risk and returns for a large sample of firms between 1992 and 2004. On average, both higher PPS and higher Vega are associated with lower future stock returns. Part of this negative relation may be due to a reduction in risk induced by risk-averse managers responding to increases in the sensitivity of their wealth to equity value. Confirming this effect, both total and idiosyncratic equity risks decrease following increases in CEOs’ PPS and Vega. However, even after correcting for lower future risk, future stock returns are negatively associated with the magnitude of option sensitivity. This finding is consistent with previous studies that link high option compensation to manager-owner agency problems. The results are robust to numerous specifications and controls.

Number of Pages in PDF File: 51

Keywords: pay-performance sensitivity, stock returns, equity risk, agency problems

JEL Classification: G32, J33

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Date posted: March 25, 2008 ; Last revised: May 21, 2010

Suggested Citation

Brick, Ivan E. and Palmon, Oded and Wald, John K., Too Much Pay Performance Sensitivity? (May 21, 2010). Available at SSRN: https://ssrn.com/abstract=1108522 or http://dx.doi.org/10.2139/ssrn.1108522

Contact Information

Ivan E. Brick
Rutgers Business School ( email )
111 Washington Avenue
Newark, NJ 07102
United States
973-353-5155 (Phone)
973-353-1233 (Fax)
Oded Palmon
Rutgers Business School ( email )
Room 5123
100 Rockafeller Road
Piscataway, NJ 08854
United States
848-445-4209 (Phone)
848-445-3907 (Fax)
John K. Wald (Contact Author)
University of Texas at San Antonio ( email )
1 UTSA Circle
San Antonio, TX 78249
United States
210-458-6324 (Phone)
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