CEO Overconfidence and the Cost of Private Debt: Evidences from Bank Loan Contracting

59 Pages Posted: 23 Feb 2016

See all articles by Yehning Chen

Yehning Chen

National Taiwan University

Po-Hsin Ho

National Central University at Taiwan - Department of Finance

Chih-Yung Lin

National Chiao-Tung University

Ju-Fang Yen

National Taipei University

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Abstract

This paper studies whether banks charge higher or lower interest rates on loans to firms with overconfident CEOs. It establishes a theoretical model to show the relationship between the loan rate and overconfidence of the borrowing firm’s CEO. It also conducts empirical analyses to test the predictions of the model. As predicted in the model, firms with overconfident CEOs enjoy lower loan rates if banks are hedged against the downside risk of the loan payments, or if these firms have more growth opportunities. In addition, overconfident firms bring more future business opportunities to banks, and there is evidence suggesting that banks may lower lending standards on overconfident firms if the banks have downside protection in the loan contracts or if the firms have more growth opportunities. This paper implies that banks may prefer high-risk borrowers if the future benefits from doing businesses with these borrowers are sufficiently high.

Keywords: CEO overconfidence,bank loan contract, growth opportunities, downside

JEL Classification: G21, G32, G33, G34

Suggested Citation

Chen, Yehning and Ho, Po-Hsin and Lin, Chih-Yung and Yen, Ju-Fang, CEO Overconfidence and the Cost of Private Debt: Evidences from Bank Loan Contracting. Melbourne Business School, 2016 Financial Institutions, Regulation & Corporate Governance (FIRCG) Conference. Available at SSRN: https://ssrn.com/abstract=2736642 or http://dx.doi.org/10.2139/ssrn.2736642

Yehning Chen (Contact Author)

National Taiwan University ( email )

1 Sec. 4, Roosevelt Road
Taipei, 106
Taiwan

Po-Hsin Ho

National Central University at Taiwan - Department of Finance ( email )

No. 300, Zhongda Rd.
Zhongli District
Taoyuan City, 32001
Taiwan

Chih-Yung Lin

National Chiao-Tung University ( email )

Taiwan

Ju-Fang Yen

National Taipei University ( email )

151, University Rd.,
San Shia District
New Taipei City, Taiwan 23741
Taiwan

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