Leverage, CEO risk-taking incentives, and bank failure during the 2007-10 financial crisis

Abstract

Usual measures of the risk-taking incentives of bank CEOs do not capture the riskshifting incentives that the exposure of a CEO's wealth to his firm's stock price (delta) creates in highly levered firms. We find evidence consistent with the importance of these incentives for bank CEOs: In a sample of large US financial firms, a higher pre-crisis delta is associated with a significantly higher probability of failure during the 2007-10 financial crisis in highly levered firms, but not in less levered firms.