Perks or Peanuts? The Dollar Profits to Insider Trading
Jasmin Gider1, Peter Cziraki2
1University of Bonn; 2University of Toronto
Discussant(s): Christoph Schneider (Tilburg University)
While prior research has documented large percentage returns to insider trading, it is less clear whether insiders make large dollar profits on their trades. This is the first paper to present large-sample, comprehensive evidence on the dollar profits from legal insider trading. We show that dollar profits are economically insignificant for a typical insider, the median insider in our sample earning annual abnormal profits of $464 per year. Further, we show that insiders with high abnormal returns on their trades do not make large dollar profits.We then gauge how much outside shareholders lose to insiders, estimating that a median amount of $3,000 is redistributed each firm-year from outsiders to corporate insiders. Finally, we use variation in SEC budgets over time and the implementation of SOX to assess whether governance can reduce insider trading profits. Here, we show that while returns decrease, dollar profits may actually increase with higher enforcement intensity or stricter reporting requirements. Overall, while trades of corporate insiders may predict future returns as prior research has shown, our results indicate that the typical insider benefits little from this information in dollar terms.
The Role of Peer Firm Selection in Explicit Relative Performance Awards
John Bizjak1, Swaminathan Kalpathy1, Frank Li2, Brian Young3
1Texas Christian University; 2University of Western Ontario; 3Southern Methodist University
Discussant(s): Oliver Spalt (Tilburg University)
One of the most significant trends in executive pay in the U.S. over the last several years is the use of explicit relative performance evaluation (RPE) awards. The peer group used to measure relative firm performance is vital in determining the payout from these awards. Since the board of directors along with firm executives determine the selection of peers, we study whether there is any bias in peer selection and measure the economic magnitude of any potential bias. While we find some evidence that peers are selected to increase award payout, we find very little evidence that any potential bias in peer selection has an economic effect on award payouts. Our evidence largely suggests that firms select peers that filter out common shocks to performance, which is consistent with the economic motivation behind the use of RPE awards. Additional analysis indicates that the overlap between peers used for RPE and peers used for compensation benchmarking constrains a firm from biasing pay upwards using compensation benchmarking. Contrary to prior evidence, we do not find any compensation benchmarking bias for firms that use RPE awards. Our research has important implications for the value and incentive properties of RPE awards and suggests that firms use these awards to improve incentive contracts.
Skin in the Game, Wealth and Risk-Taking
Carsten Bienz1, Karin Thorburn1, Uwe Walz2
1NHH Norwegian School of Economics; 2Goethe University Frankfurt
Discussant(s): Dirk Jenter (London School of Economics)
We investigate the incentive effects of "skin-in-the-game" compensation (delegated decision-makers owning stakes in the investment vehicle) in particular on risk-taking. We use the private equity industry where fund managers are typically required to co-invest their own money alongside the fund as our testing ground.
We check the predictions of our model, namely that more skin in the game will lead to the acquisition of less risky, but more levered firms,in a unique sample of private equity investments in Norway. This data set allows us to compute the fund managers' skin in the game as we have information on their personal wealth. Consistent with the model, portfolio company risk decreases and leverage ratios increase with the co-investment fraction of the manager's wealth. Hence, our results clearly show that wealth effects are of first order importance when designing incentive compensation.