NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Executive Compensation and Short-termist Behavior in Speculative Markets

Patrick Bolton, Jose Scheinkman, Wei Xiong

NBER Working Paper No. 9722
Issued in May 2003
NBER Program(s):   CF   LS

We present a multiperiod agency model of stock based executive compensation in a speculative stock market, where investors are overconfident and stock prices may deviate from underlying fundamentals and include a speculative option component. This component arises from the option to sell the stock in the future to potentially overoptimistic investors. We show that optimal compensation contracts may emphasize short-term stock performance, at the expense of long run fundamental value, as an incentive to induce managers to pursue actions which increase the speculative component in the stock price. Our model provides a different perspective for the recent corporate crisis than the increasingly popular `rent extraction view' of executive compensation.

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This paper was revised on November 18, 2005

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Document Object Identifier (DOI): 10.3386/w9722

Published: Bolton, Patrick, Jos Scheinkman and Wei Xiong. "Executive Compensation And Short-Termist Behaviour In Speculative Markets," Review of Economic Studies, 2006, v73(3,Jul), 577-610.

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