CEO Compensation duration, risk-taking incentives, and corporate hedging

Abstract This paper examines whether and how corporate hedging policy is affected by the duration of CEOs’ compensation. By utilizing a sample of hand-collected compensation contracts, we construct various duration measures, including the overall compensation duration, cash duration, equity duration, and inside debt duration. We find that the overall compensation duration is positively related to the tendency to hedge. We further show that the risk incentives generated by the duration of these compensation components are significantly different. Cash compensation duration and equity compensation duration negatively affect the propensity to hedge. On the other hand, inside debt duration exhibits a strongly positive impact on hedging. Our investigation further suggests that such distinctive effects of compensation duration on hedging are strengthened by shareholder control and alleviated by debtholder control. Our findings highlight the importance of considering all compensation components and recognizing that managerial risk attitudes can be shaped by the competing mechanisms designed through the duration of various compensation components.