Investor Reactions to Derivative Use: Experimental Evidence

43 Pages Posted: 26 Feb 2006

See all articles by Lisa Koonce

Lisa Koonce

University of Texas

Marlys Gascho Lipe

University of South Carolina - Department of Accounting

Mary Lea McAnally

Texas A&M University - Department of Accounting

Date Written: February 15, 2006

Abstract

How do investors evaluate managers who choose to use or not use derivatives once the outcomes of those decisions become known? Competing theories make different predictions, and we test these in three experiments. Results show that even when outcomes are held constant, investors are more satisfied and assign a higher value to a company that uses derivatives than to one that does not use derivatives. This finding is consistent with decision justification theory. Additional tests reveal that this result occurs because investors believe that firm managers who use derivatives to address risk exposures exhibit a higher level of decision-making care. In contrast, we find that speculative use of derivatives is not assumed to result from careful thought, resulting in harsher judgments about management. Overall, our study adds to our understanding of how investors judge companies who use derivatives, given the outcomes that result from such use.

Keywords: Derivatives, valuation, judgment and decision making

JEL Classification: M41, G12, G30

Suggested Citation

Koonce, Lisa L. and Lipe, Marlys G. and McAnally, Mary Lea, Investor Reactions to Derivative Use: Experimental Evidence (February 15, 2006). Available at SSRN: https://ssrn.com/abstract=884938 or http://dx.doi.org/10.2139/ssrn.884938

Lisa L. Koonce (Contact Author)

University of Texas ( email )

Dept. of Accounting
McCombs School of Business
Austin, TX 78712
United States
512-471-5576 (Phone)
512-471-3904 (Fax)

Marlys G. Lipe

University of South Carolina - Department of Accounting ( email )

The Francis M. Hipp Building
1705 College Street
Columbia, SC 29208
United States
803 576-5552 (Phone)

Mary Lea McAnally

Texas A&M University - Department of Accounting ( email )

430 Wehner
College Station, TX 77843-4353
United States
979-845-5017 (Phone)
979-845-0014 (Fax)

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