Subjective Stock Option Values and Exercise Decisions: Determinants and Consistency

Stock option programs constitute an important economic domain both for the issuing companies and for their employees. Little is known, however, about which individual variables actually drive exercise patterns and how employees value their stock options. We study the following set of research questions to provide a contribution to a better understanding of these topics: How do employees exercise and value stock options? What are the determinants of exercise decisions and subjective option values? Do employees exercise options from different grants in a consistent way? Are subjective option values consistent with individuals' exercise decisions? We are able to use a unique data set combining employee-level option exercises with subjective option values extracted by means of an internal survey. Furthermore, we can combine this data with a wide set of individual variables. We find that employees exercise their stock options well before expiration. The median individual sacrifices more than 90% of the option's lifetime by exercising early. Surprisingly, we also find that individuals substantially overvalue the options they received. We show that exercise dates and option values are unrelated with measures of risk aversion. Loss aversion, however, does a better job in explaining the heterogeneity in option values. We also document that optimism and overconfidence measures are significantly related to option values. We show that managers that are very optimistic about company stock place higher values on their options. This finding is consistent with the sentiment hypothesis presented in Oyer and Schaefer (2004) and Bergman and Jenter (2004). Some evidence for an intertemporal consistency of exercises decisions is also provided. However, we find only weak support for the hypothesis that higher option values are associated with later exercise decisions.