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Limited attention to detail in financial markets: Evidence from reduced-form and structural estimation

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  • Cronqvist, Henrik
  • Ladika, Tomislav
  • Pazaj, Elisa
  • Sautner, Zacharias

Abstract

We show that firm valuations fell after a key expense became more visible in financial statements. FAS 123-R required firms to deduct option compensation costs from earnings, instead of disclosing them in footnotes. Firms that granted high option pay experienced earnings reductions, while fundamentals remained unchanged. These firms were more likely to miss earnings forecasts, and they experienced recommendation downgrades and valuation declines. Our findings suggest that market participants exhibited limited attention to option costs before FAS 123-R. As we reuse the FAS 123-R natural experiment, we show how one can address confounding channels by integrating reduced-form and structural estimation.

Suggested Citation

  • Cronqvist, Henrik & Ladika, Tomislav & Pazaj, Elisa & Sautner, Zacharias, 2024. "Limited attention to detail in financial markets: Evidence from reduced-form and structural estimation," Journal of Financial Economics, Elsevier, vol. 154(C).
    • Handle: RePEc:eee:jfinec:v:154:y:2024:i:c:s0304405x24000345
    DOI: 10.1016/j.jfineco.2024.103811
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    References listed on IDEAS

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    More about this item

    Keywords

    Limited attention; Financial analysts; Option compensation; Learning; Reusing natural experiments; Structural estimation;
    All these keywords.

    JEL classification:

    • C18 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Methodolical Issues: General
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G35 - Financial Economics - - Corporate Finance and Governance - - - Payout Policy
    • G41 - Financial Economics - - Behavioral Finance - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making in Financial Markets
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects

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