Transcript risk taking and execu comp

Executive Compensation and Risk
Taking in the Property and Casualty
Insurance Industry
Mark Browne (U Wisconsin)
Yu-Luen Ma (Illinois State U)
Ping Wang (St John’s U, presenter)
on CICIRM 2011 in Beijing, China
Stock-Based
Executive Compensation
Stock grants
Restricted stocks
Stock options
Stock-Based Compensation
and Risk Taking
Payoff of stock is linear
Payoff of stock option isn’t.
Research Question
Are executives’ stock-based compensation
portfolio related to insurance
companies’ risk taking behavior?
Literature Review
Convex compensation scheme may induce risk
taking:
Marcus 1982, Lambert 1986
Incentive compensation positively related to risk
measures:
Agrawal and Mandelker (1987), Mehran(1992)
Incentive compensation negatively related to
risk measures or insignificant:
Core et al (1999), Geczy et al. (1997), Gay and Nam (1998),
Knopf et al. (2002), Mehran (1995)
The effects maybe complex:
Ross (2004)
Data
Data source:
Executive compensation: ExecuComp
database and SEC filings
Firm operation performance data: SEC
Publicly traded property-casualty groups
Data period: 2006-2008
Risk Measures
(Dependent variables)
% of commercial lines premium
Coefficient of variation of daily stock price
(calculated by SD/mean)
Leverage
Liquidity Risk
Market risk
Credit risk
Capital Adequacy Ratio
Coefficient of earning per share
Standard deviation of earning per share
Standard deviation of return on assets
Independent Variables
Factors
Proxies
TOTALOPTION
TOTALSHARES
DIRECTORS
Reinsurance
SIZE
GROUP
HHGEO
HHPROD
The sensitivity of stock option holdings to stock price
The sensitivity of stock holdings to stock price
Percentage of outside board members
Reinsurance ceded/direct premium
Total admitted assets
if insurance group;
Geographic diversification measured by Herfindahl
Index;
Product diversification measured by Herfindahl Index;
AGENT
1 if using independent agency system;
GOODRATING
1 if AM Best rating is A or above;
Empirical Models
Two forms of compensation variables
– dollar amount; standardized by cash
compensation (salary + bonus)
Fixed effects model (dummies for both
Years and firms)
Preliminary Results
Insurers whose executive compensation
is more sensitive to stock price
underwrite more commercial lines
business.
Experience more volatility in daily stock
price.