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The Efficiency of Stock-Based Incentives: Experimental Evidence


Steven Huddart and Abdullah Yavas

This paper reports the results of laboratory experiments in which subjects are offered contracts structured like equity compensation packages, and result in subjects receiving cash payments that are a function of their effort and random factors. We compare the outcomes from alternative contractual forms to theoretical benchmarks and report the efficiency of the contracts to provide evidence on whether options or stocks that have same economic cost to the employer yield the same or different effort levels from the managers. Both contracts elicit lower levels of effort than would be chosen by an expected-payoff-maximizing decision maker. Effort choices under the option contract did not differ significantly from effort choices under the stock contract except for male subjects. The option contract elicits a higher effort level for these subjects and condition than the stock contract. Effort choices reflect loss aversion and regret based on past stock price realizations.

Forthcoming, Journal of Behavioral Finance

Download the paper from HuYa-JBF-Accepted.pdf.

Keywords: equity, stock options, incentives, moral hazard

JEL Classification: G32, J33, K22, M41


Steven Huddart
Smeal College of Business, Penn State University, University Park, PA 16802-3603 USA
(814) 863-0048
huddart@psu.edu
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was last updated on Tue, Aug 21, 2018.
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