CEO Compensation, Diversification and Incentives

Jin, Li (2002) CEO Compensation, Diversification and Incentives. Journal of Financial Economics, 66 (1). pp. 29-63.

Abstract

This paper examines the relation between chief executive officers’ (CEOs’) incentive levels and their firms’ risk characteristics. I show theoretically that, when CEOs cannot trade the market portfolio, optimal incentive level decreases with firm's nonsystematic risk but is ambiguously affected by firm's systematic risk; when CEOs can trade the market portfolio, optimal incentive level decreases with nonsystematic risk but is unaffected by systematic risk. Empirically I find support for these predictions. Furthermore, I find that incentives for CEOs likely facing binding short-selling constraints decrease with systematic as well as nonsystematic risk, as predicted by theory. Thus, compensation practice is consistent with predictions of theory.

Item Type: Article
Keywords: Executive compensation; Diversification; Firm-specific risk; Incentives; Pay–performance sensitivities
Subject(s): Finance
Centre: Faculty of Finance
Date Deposited: 20 Mar 2013 11:36
Last Modified: 23 Oct 2015 14:08
URI: http://eureka.sbs.ox.ac.uk/id/eprint/4501

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