Managerial Incentives and Stock Price Manipulation

Lin Peng and Ailsa Röell

Journal of Finance, 2014, vol. 69, issue 2, 487-526

Abstract: type="main">

We present a rational expectations model of optimal executive compensation in a setting where managers are in a position to manipulate short-term stock prices and the manipulation propensity is uncertain. We analyze the tradeoffs involved in conditioning pay on long- versus short-term performance and show how manipulation, and investors' uncertainty about it, affects the equilibrium pay contract and the informativeness of prices. Firm and manager characteristics determine the optimal compensation scheme: the strength of incentives, the pay horizon, and the use of options. We consider how corporate governance and disclosure regulations can help create an environment that enables better contracting.

Date: 2014
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