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Heterogeneous Beliefs and the Demand for D&O Insurance by Listed Companies
Author(s) -
Egger Peter,
Radulescu Doina,
Rees Ray
Publication year - 2015
Publication title -
journal of risk and insurance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.055
H-Index - 63
eISSN - 1539-6975
pISSN - 0022-4367
DOI - 10.1111/jori.12082
Subject(s) - shareholder , stock (firearms) , business , capital market , monetary economics , empirical research , empirical evidence , finance , financial economics , actuarial science , economics , corporate governance , mechanical engineering , philosophy , epistemology , engineering
Abstract This article introduces a new rationale for the existence of “directors’ and officers” (D&O) insurance. We use a model with volatile stock markets where shareholders design compensation schemes that incentivize managers to stimulate short‐term increases in stock prices that do not maximize long‐run stock market value. We show that D&O insurance provides a convenient instrument for the initial shareholders of a company to take advantage of differences in beliefs between insiders and outsiders in capital markets. The empirical results support the idea that both the insurance coverage and the premium are higher in the presence of new shareholders and volatile markets. The results prove robust in various empirical model specifications.