I study the effect of chief executive officer (CEO) optimism on CEO compensation. Using data on compensation in US firms, I provide evidence that CEOs whose option exercise behavior and earnings forecasts are indicative of optimistic beliefs receive smaller stock option grants, fewer bonus payments, and less total compensation than their peers. These findings add to our understanding of the interplay between managerial biases and remuneration and show how sophisticated principals can take advantage of optimistic agents by appropriately adjusting their compensation contracts.

CEO optimism and incentive compensation

Overconfidence seems to be an essential aspect of human nature, and one way to study overconfidence is to consider students' forecasts of their exam grades. Part of a student's grade expectation is based on the student's previous academic achievements; what remains can be interpreted as (over)confidence. In this paper we study overconfidence using a sample of about five hundred second-year undergraduate students enrolled in a statistics course in Moscow. The course contains three exams and each student produces a forecast for each of the three exams. Students' expectations are not rational and most of students are overconfident, which is in agreement with what most people find. Less obvious findings are that overconfidence is helpful: given the same academic achievement students with larger confidence get higher exam grades. Female students are less overconfident than male students, their forecasts are more rational, and they are also faster learners in the sense that they adjust their expectations more rapidly.

/pdf/grade-expectations-rationality-and-overconfidence-bx88i3g73q.pdf

Grade Expectations: Rationality and Overconfidence

This thesis contains four chapters presenting theory and empirical evidence for two distinct aspects of human behaviour: social learning and motivated beliefs. I develop a simple theory to revisit the classical social learning models by challenging the assumption of freely available information. My model suggests that when it is costly to acquire information, social learning (herding) is prevalent, and people do not have incentives to acquire private information (e.g. to form their own judgements). Classical information cascade models suggest that although herding is observed, information aggregation is still possible with communication channels (e.g. a survey); however, my model indicates that information aggregation is unattainable because people in the herd do not acquire private information. We then test my model in a laboratory and find that, as predicted, subjects can learn from others successfully. Also, individual heterogeneity exists in: there are herd animals biased against private information, lone wolves who are biased toward it and subjects who behave optimally. In aggregate, there is no overall bias for or against private information. We also document a new cognitive bias involved in processing social information. Individual characteristics, especially the cognitive ability, seems to be a very good indicator of subjects’ behaviour. Subjects with higher cognitive scores choose optimal information more frequently and follow information more frequently. Overconfidence can be driven by the consumption motive (e.g. savouring future payoff/self-image) and the instrumental motive (e.g. being optimistic about the outcome of effort for motivation). I develop a simple model incorporating these two motives and suggest that individuals hold a dynamic pattern of overconfidence. Then I conduct an online field experiment with students to test the theory. The experimental findings indicate that students are likely to adopt overconfident beliefs as a commitment device to deal with their self-control problem. However, I do not find evidence for the consumption motive of overconfidence.

Studies on social learning and on motivated beliefs: theory and evidence

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Studies on social learning and on motivated beliefs: theory and evidence