Investor reactions to derivative use and outcomes
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abstract
How do investors evaluate managers who choose whether or not to use derivatives once the outcomes of those decisions become known? Different theories offer different predictions, and we test these in three experiments. Results show that investors are more satisfied with firm managers and assign a higher value to firms when managers use derivatives (that address firm risks) than when they do not. This result occurs even though we hold constant the economic differences typically present when comparing derivative use versus non-use (that is, ex ante risk and ex post outcome), suggesting that investors reward firms that use derivatives. Additional tests reveal that investors believe that managers who use derivatives in these situations exhibit a higher level of decision-making care than those who do not use derivatives. We also document that these inferences about greater decision-making care do not apply to the speculative use of derivatives. Overall, our study adds to our understanding of how investors judge companies that use derivatives, given the resulting outcomes of such use. 2007 Springer Science+Business Media, LLC.
