Executive Options with Inflated Equity Prices
55 Pages Posted: 11 Sep 2008 Last revised: 4 Jun 2010
Date Written: June 2, 2010
This study solves the optimal managerial compensation problem when shareholders are either naïvely optimistic or rational. The results suggest that boards of directors should decrease option grants to CEOs when equity is likely to be irrationally overvalued at the date when the CEO’s options vest. The implications of the model are consistent with the available empirical evidence. In addition, the model generates new testable predictions about managerial stock price manipulation, the number of options granted, and the magnitude of the options’ strike prices that have not yet been formally tested.
Keywords: behavioral finance, CEO, executive compensation, fraud, options, strike price
JEL Classification: G32, G34, J33, M52
Suggested Citation: Suggested Citation