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Hedge markets for executives and corporate agency

  • OZERTURK, Saltuk
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    This paper analyzes the implications of executive hedge markets for firm value maximization in an optimal contracting framework. The main results are as follows: Without any hedging ability, the manager underinvests in risk at the firm level to diversify his own compensation risk. If the manager can trade a security correlated with firm specific risk, the underinvestment in risk is reduced, optimal managerial share ownership and equilibrium effort increase. If the manager can hedge by simulating the sale of his shares, however, he can completely undo any incentive scheme. The model predicts that a higher degree of financial market development implies higher managerial share ownership and more efficient risk taking at the firm level.

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    File URL: http://alfresco.uclouvain.be/alfresco/download/attach/workspace/SpacesStore/3c7f9992-d545-4b18-8da4-8c11a7acdc0b/coredp_2006_09.pdf
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    Paper provided by Université catholique de Louvain, Center for Operations Research and Econometrics (CORE) in its series CORE Discussion Papers with number 2006009.

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    Date of creation: 00 Feb 2006
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    Handle: RePEc:cor:louvco:2006009
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    Web page: http://www.uclouvain.be/core
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    16. Richard A. Lambert, 1986. "Executive Effort and Selection of Risky Projects," RAND Journal of Economics, The RAND Corporation, vol. 17(1), pages 77-88, Spring.
    17. Kahn, Charles M. & Mookherjee, Dilip, 1995. "Market failure with moral hazard and side trading," Journal of Public Economics, Elsevier, vol. 58(2), pages 159-184, October.
    18. Bizer, David S. & DeMarzo, Peter M., 1999. "Optimal Incentive Contracts When Agents Can Save, Borrow, and Default," Journal of Financial Intermediation, Elsevier, vol. 8(4), pages 241-269, October.
    19. Charles M. Kahn & Dilip Mookherjee, 1998. "Competition and Incentives with Nonexclusive Contracts," RAND Journal of Economics, The RAND Corporation, vol. 29(3), pages 443-465, Autumn.
    20. Guo, Ming & Ou-Yang, Hui, 2006. "Incentives and performance in the presence of wealth effects and endogenous risk," Journal of Economic Theory, Elsevier, vol. 129(1), pages 150-191, July.
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