Geczy, Christopher C. (U of Pennsylvania) Minton, Bernadette (Ohio State U) Schrand, Catherine (U of Pennsylvania)
Abstract
Using a unique dataset from a well-known survey on derivatives use, this paper examines several questions about the use of derivatives to “take a view” on interest-rate and currency movements. Tests of what motivates firms to take a view suggest that firms view speculation as a profitable NPV activity. The data do not support other theories of “rational” speculation such as Campbell and Kracaw (1999). Firms “specialize” in taking a view on either interest rates or currency rates and specialization in FX contracts is positively related to the extent of the firm’s foreign operations. We also examine the associations between speculation and compensation arrangements, governance structures, and internal control mechanisms. Compensation-related incentives of the CFO, but not the CEO, are associated with the likelihood that a firm actively takes derivatives positions. CFO portfolio deltas (vegas) positively (negatively) impact the probability of these activities. Moreover, firms with governance structures that allow for greater managerial power and indicate fewer shareholder rights are more likely to take a view. However, internal controls related specifically to derivatives use are more extensive for the firms that take a view, which suggests that transaction-specific controls are demand driven. Finally, we examine whether investors using publicly available information in corporate disclosures could identify firms that openly admit to speculation in the confidential survey. The answer is that they cannot.
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Paper provided by Ohio State University, Charles A. Dice Center for Research in Financial Economics in its series Working Paper Series with number
2004-11.
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