The Effects of Endowment and Loss Aversion in Managerial Stock Option Valuation

Academy of Management Journal, No. 50, pp. 191-208, 2008

19 Pages Posted: 5 Dec 2008

See all articles by Cynthia E. Devers

Cynthia E. Devers

Michigan State University - Eli Broad College of Business and Eli Broad Graduate School of Management

Robert M. Wiseman

Michigan State University - Department of Management

R. Michael Holmes

Florida State University - Department of Management

Date Written: December 3, 2008

Abstract

Assuming a positive influence of stock price volatility on stock option value, incentive alignment proponents argue that stock option compensation encourages managerial risk seeking and, thus, aligns managers' and shareholders' risk preferences. Our findings show that stock option holders overvalue unexercisable options relative to options being offered and to normative (e.g., Black-Scholes) valuations. Further, the influence of stock price volatility on holders' subjective valuations depends on stock price trend. In sum, results suggest that during stock option valuation, managers draw on heuristics that financial options theory and models fail to capture. We discuss implications for compensation design and research.

Keywords: stock options, executive compensation, agency theory, black-scholes, behavioral theory

Suggested Citation

Devers, Cynthia E. and Wiseman, Robert M. and Holmes, R. Michael, The Effects of Endowment and Loss Aversion in Managerial Stock Option Valuation (December 3, 2008). Academy of Management Journal, No. 50, pp. 191-208, 2008, Available at SSRN: https://ssrn.com/abstract=1310830

Cynthia E. Devers (Contact Author)

Michigan State University - Eli Broad College of Business and Eli Broad Graduate School of Management ( email )

Agriculture Hall
East Lansing, MI 48824-1122
United States

Robert M. Wiseman

Michigan State University - Department of Management ( email )

North Business Complex
East Lansing, MI 48824-1122
United States
517-432-3508 (Phone)

R. Michael Holmes

Florida State University - Department of Management ( email )

United States

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