When Myopic Managers Must Mark to Market

Abstract

While prior research suggests strict, fair-value-based securities accounting rules cause banks to sell securities into negative liquidity shocks, a value-destroying behavior called “liquidity feedback trading," the mechanism is uncertain. We find the sooner CEOs are permitted to sell their stock, the more prone are their banks to feedback trading. Furthermore, the sooner CEOs can sell, the more positive their banks’ stock price reaction to news of accounting rule relaxation. We conclude incentives for excessive managerial short-term focus are a mechanism by which stricter accounting rules cause feedback trading. We find no evidence regulatory compliance concerns play a role.

Keywords: Financial Crisis, Banking, Bank Liquidity Provision, CEO Incentives, CEO Pay Duration, Capital Regulation, Real Earnings Management, Other-Than-Temporary Impairments

JEL Classification: G21, G28, G34, G38, M41, M43, M44