Information-Based Stock Trading, Executive Incentives, and the Principal-Agent Problem

Qiang Kang () and Qiao Liu ()
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Qiang Kang: School of Business Administration, University of Miami, Coral Gables, Florida 33124

Management Science, 2010, vol. 56, issue 4, 682-698

Abstract: We examine the role of information-based stock trading in affecting the risk-incentive relation. By incorporating an endogenous informed trading into an optimal incentive contracting model, we analytically show that, apart from reducing incentives, a greater risk increases the level of information-based trading, which consequently enhances executive incentives and offsets the negative risk-incentive relation. We calibrate the model and find that the economic magnitude of this incentive-enhancement effect is significant. Our empirical test using real-world executive compensation data lends strong support to the model prediction. Our results suggest that principals (boards of directors) should consider underlying stock trading characteristics when structuring executive incentives.

Keywords: risk-incentive trade-off; endogenous information-based trading; pay-performance sensitivity; adjusted pin; calibration (search for similar items in EconPapers)
Date: 2010
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Citations: View citations in EconPapers (9)

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Persistent link: https://EconPapers.repec.org/RePEc:inm:ormnsc:v:56:y:2010:i:4:p:682-698

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