Risk-Taking Incentives and Risk Perceptions
Friday, Jan. 6, 2017 3:15 PM – 5:15 PM
- Chair: Alexander F. Wagner, Swiss Finance Institute and University of Zurich
Rankings and Risk-Taking in the Finance Industry
AbstractRankings are a pervasive feature of the finance industry. Although they have no direct monetary consequences, rankings provide utility for intrinsic (positive self-image) and extrinsic (status) reasons. We recruit a unique subject pool of 204 financial professionals and investigate how anonymous rankings influence risk-taking in investment decisions. We find that rankings increase risk-taking because of financial professionals’ desire for positive self-image. This particularly applies to underperformers, who take the highest risks. Incentivizing rankings monetarily does not further increase risk-taking. In a comparative study with 432 students we find that student behavior is not driven by rankings.
Managerial Incentives to Take Asset Risk
AbstractWe argue that incentives to take equity risk ("equity incentives") only partially capture incentives to take asset risk ("asset incentives"). This is because leverage, while central to the theory of risk-shifting, is not explicitly considered by equity incentives. Employing measures of asset incentives that account for leverage, we find that asset risk-taking incentives can be large compared to incentives to increase firm value. Moreover, stock holdings can induce substantial risk-taking incentives, qualifying common beliefs regarding the central role of stock options. Finally, only asset incentives explain asset risk-taking of U.S. financial institutions before the 2007/08 crisis.
How Risk Simulations Improve Long-Term Investment Decisions
AbstractRisk simulations, which dynamically demonstrate investors the possible consequences of their investment decisions, were shown to play an integral part in comprehending the risk-return trade-off and improving investment decision making. Up to now, studies have taken a static, short-term perspective focusing on just the initial investment decision. We analyze the benefits of risk simulations in a long-term experiment in which investors experience intermediate investment success and can adjust their investment strategy along the way. We find results underscoring the positive effects of risk simulations on investors’ understanding of the risk-return trade-off. Also, investors who do not use simulations need multiple investment periods until they show stable average risk taking behavior.
- D0 - General
- G0 - General