Journal
JOURNAL OF MONETARY ECONOMICS
Volume 69, Issue -, Pages 121-137Publisher
ELSEVIER SCIENCE BV
DOI: 10.1016/j.jmoneco.2014.11.004
Keywords
Corporate investment; Uncertainty; Agency conflicts; Executive compensation; Idiosyncratic volatility
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This study provides evidence that managerial incentives, shaped by compensation contracts, help to explain the empirical relationship between uncertainty and investment. We develop a model in which the manager, compensated with an equity-based contract, makes investment decisions for a firm that faces time-varying volatility. The contract creates incentives that affect both the sign and magnitude of a manager's optimal response to volatility shocks. The model is calibrated using compensation data to quantify this predicted investment response for a large panel of firms. Our estimates help explain the variation in firm-level investment responses to volatility shocks observed in the data. (C) 2014 Elsevier B.V. All rights reserved.
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