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Corporate risk: CEO overconfidence and incentive compensation

Corporate risk: CEO overconfidence and incentive compensation The purpose of this study is to investigate the association between corporate risk and the interaction between CEO incentive compensation and CEO overconfidence.Design/methodology/approachThis empirical study performs random and fixed effect (FE) regression analysis. It uses option-implied measures of CEO overconfidence.FindingsThe authors contribute to the existing literature by showing (1) that the positive association between high CEO incentive compensation and corporate risk only exists in the sphere of overconfident CEOs and (2) that the positive association between overconfident CEOs and corporate risk only exists in the sphere of high CEO incentive compensation. The authors show that the combination of high CEO incentive compensation and CEO overconfidence is associated with an increase in corporate risk of approximately 6% while the individual effects are for all practical reasons negligible. The results imply that only the combination of high CEO incentive compensation and CEO overconfidence is associated with a significantly elevated level of corporate risk.Research limitations/implicationsThe findings are based on S&P 1500 non-financial firms in the period 2007–2016.Practical implicationsThe findings have important implications in terms of CEO selection and compensation.Originality/valueThis study provides empirical evidence on the importance of the dual presence of high CEO incentive compensation and CEO overconfidence for corporate risk. The previous literature has primarily investigated these phenomena in isolation. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Managerial Finance Emerald Publishing

Corporate risk: CEO overconfidence and incentive compensation

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References (74)

Publisher
Emerald Publishing
Copyright
© Emerald Publishing Limited
ISSN
0307-4358
DOI
10.1108/mf-05-2020-0278
Publisher site
See Article on Publisher Site

Abstract

The purpose of this study is to investigate the association between corporate risk and the interaction between CEO incentive compensation and CEO overconfidence.Design/methodology/approachThis empirical study performs random and fixed effect (FE) regression analysis. It uses option-implied measures of CEO overconfidence.FindingsThe authors contribute to the existing literature by showing (1) that the positive association between high CEO incentive compensation and corporate risk only exists in the sphere of overconfident CEOs and (2) that the positive association between overconfident CEOs and corporate risk only exists in the sphere of high CEO incentive compensation. The authors show that the combination of high CEO incentive compensation and CEO overconfidence is associated with an increase in corporate risk of approximately 6% while the individual effects are for all practical reasons negligible. The results imply that only the combination of high CEO incentive compensation and CEO overconfidence is associated with a significantly elevated level of corporate risk.Research limitations/implicationsThe findings are based on S&P 1500 non-financial firms in the period 2007–2016.Practical implicationsThe findings have important implications in terms of CEO selection and compensation.Originality/valueThis study provides empirical evidence on the importance of the dual presence of high CEO incentive compensation and CEO overconfidence for corporate risk. The previous literature has primarily investigated these phenomena in isolation.

Journal

Managerial Finance – Emerald Publishing

Published: Jan 28, 2021

Keywords: Behavioral corporate finance; CEO overconfidence; CEO incentive compensation; Corporate risk

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