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Stock Market Tournaments

Emre Ozdenoren () and Kathy Yuan

FMG Discussion Papers from Financial Markets Group

Abstract: We propose a new theory of suboptimal risk-taking based on contractual externalities. We examine an industry with a continuum of _rms. Each _rm's manager exerts costly hidden e_ort. The productivity of e_ort is subject to systematic shocks. Firms' stock prices reect their performance relative to the industry average. In this setting, stock-based incentives cause complementarities in managerial e_ort choices. Externalities arise because shareholders do not internalize the impact of their incentive provision on the average e_ort. During booms, they over-incentivise managers, triggering a rat-race in e_ort exertion, resulting in excessive risk relative to the second-best. The opposite occurs during busts.

Date: 2012-07
New Economics Papers: this item is included in nep-cta and nep-hrm
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Working Paper: Stock Market Tournaments (2012) Downloads
Working Paper: Stock Market Tournaments (2012) Downloads
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