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Idiosyncratic volatility, executive compensation and corporate governance: examination of the direct and moderate effects

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Abstract

Entrenchment of private benefits by the CEO or dominant owners can lead corporations to avoid riskier but more private benefits resulting in greater idiosyncratic volatility and information flow trading. Using a unique database of 806 listed firms, we investigate the impact of CEO compensation and corporate governance on idiosyncratic volatility and information flow trading. We find strong and robust evidence that equity-based (fixed income) CEO compensation is negatively (positively) related to volatility and information trading. Incorporating an agent principal–principal perspective into our models of managerial discretion provides us with an accurate prediction of how the proportion of CEO compensation and the degree of entrenchment will influence risk-taking decisions as well as how equity-based compensation interacts with related-party transaction and ownership dispersion to influence stock volatility. Finally, we find that idiosyncratic volatility and information flow trading are also affected by CEO compensation and corporate governance, which act as instrumental variables, while subject to environmental variants and the jointly determined.

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Notes

  1. China’s PwC announced that their compensation and salary growth rates have been higher than the corporation’s profit growth rate since 2008. The directors and CEO of the Ping An Insurance (Group) Company of China received the highest compensation of all Chinese listed companies [over 66 million Renminbi (RMB) per year]. The directors and president of Gree Electric Appliances both received salaries of over 170 million RMB.

  2. There is clear separation between ownership and management, as well as dominance of the board of directors by the CEO in US and UK listed firms. In European firms, CEOs are representatives of the majority shareholders and there is less differentiation between managers and owners in the ownership structure. Su et al. (2008) studied principal–principal conflict in the corporate governance of Chinese public corporations.

  3. The nature of firm ownership is determined from annual reports. Almost all Taiwan listed firms have a controlling shareholder that controls 30 % or more of the votes or shares, who can elect half or more of the directors, and who can effectively control the listed company. Firms for which we cannot identify the type of ultimate controller are excluded from the sample.

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Acknowledgments

The author would like to thank the anonymous referees and Professor Wolfgang Kürsten for their helpful comments which have helped to improve the quality of this manuscript. We also thank Professor L. Hong from National Central University (Taiwan) and Professor Can An from Wollongong University (Australia) for their helpful comments. The remaining errors and omissions are the responsibility of the author alone.

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  1. Department of Banking and Finance, Kainan University, Taipei City, Taiwan

    Mu-Shun Wang

  2. No. 1 Kainan Road, Luzhu Shiang, Taoyuan, 33857, Taiwan

    Mu-Shun Wang

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Correspondence to Mu-Shun Wang.

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Wang, MS. Idiosyncratic volatility, executive compensation and corporate governance: examination of the direct and moderate effects. Rev Manag Sci 10, 213–244 (2016). https://doi.org/10.1007/s11846-014-0143-7

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