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Stock Options, Idiosyncratic Volatility, and Earnings Quality

Author

Listed:
  • Pervaiz Alam

    (Department of Accounting, College of Business Administration, Kent State University, Kent, OH 44242, USA)

  • Min Liu

    (Business Division, ASA Institute, New York, NY 11201, USA)

  • Zhefeng Liu

    (Goodman School of Business, Brock University St Catharines, Onatario, Canada)

  • Xiaofeng Peng

    (Department of Accounting, College of Business and Innovation, University of Toledo, Ohio 43606, USA)

Abstract

The value of stock options increases in both stock prices and volatility. It suggests that options might engender incentives for managers to increase both stock prices and volatility. Recent studies have documented a negative association between earnings quality and idiosyncratic volatility: Hence, the lower the earnings quality, the greater the idiosyncratic volatility, and the higher the value of stock options. This study investigates whether there is a link between CEO equity compensation and earnings quality. Using a simultaneous system of equations, we find negative correlations between the two, suggesting that managers have incentives to reduce earnings quality.

Suggested Citation

  • Pervaiz Alam & Min Liu & Zhefeng Liu & Xiaofeng Peng, 2015. "Stock Options, Idiosyncratic Volatility, and Earnings Quality," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 18(02), pages 1-30.
    • Handle: RePEc:wsi:rpbfmp:v:18:y:2015:i:02:n:s0219091515500113
    DOI: 10.1142/S0219091515500113
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    Citations

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    Cited by:

    1. Cheng-Few Lee & Chengru Hu & Maggie Foley, 2021. "Differential risk effect of inside debt, CEO compensation diversification, and firm investment," Review of Quantitative Finance and Accounting, Springer, vol. 56(2), pages 505-543, February.
    2. Hongrui Feng & Shu Yan, 2019. "CEO incentive compensation and stock liquidity," Review of Quantitative Finance and Accounting, Springer, vol. 53(4), pages 1069-1098, November.
    3. Helena Isidro & José G. Dias, 2017. "Earnings quality and the heterogeneous relation between earnings and stock returns," Review of Quantitative Finance and Accounting, Springer, vol. 49(4), pages 1143-1165, November.
    4. Jamshed Iqbal & Sami Vähämaa, 2019. "Managerial risk-taking incentives and the systemic risk of financial institutions," Review of Quantitative Finance and Accounting, Springer, vol. 53(4), pages 1229-1258, November.
    5. Angelos Kanas & Panagiotis D. Zervopoulos, 2020. "Systemic risk-shifting in U.S. commercial banking," Review of Quantitative Finance and Accounting, Springer, vol. 54(2), pages 517-539, February.

    More about this item

    Keywords

    Stock options; CEO compensation; executive compensation; earnings quality; earnings management; idiosyncratic volatility;
    All these keywords.

    JEL classification:

    • G1 - Financial Economics - - General Financial Markets
    • G2 - Financial Economics - - Financial Institutions and Services
    • G3 - Financial Economics - - Corporate Finance and Governance

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