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Executive stock option plans have asymmetric payoffs that could induce managers to take on more risk. Evidence from traded call options and stock return data supports this notion. Implicit share price variance, computed from the Black‐Scholes option pricing model, and stock return variance increase after the approval of an executive stock option plan. The event is accompanied by a significant positive stock and a negative bond market reaction. This evidence is consistent with the notion that executive stock options may induce a wealth transfer from bondholders to stockholders.

Executive stock option plans have asymmetric payoffs that could induce managers to take on more risk. Evidence from traded call options and stock return data supports this notion. Implicit share price variance, computed from the Black-Scholes option pricing model, and stock return variance increase after the approval of an executive stock option plan. The event is accompanied by a significant positive stock and a negative bond market reaction. This evidence is consistent with the notion that executive stock options may induce a wealth transfer from bondholders to stockholders. (1981)). The typical stock option plan grants the executive the option to purchase a number of shares of common stock at a stated exercise price that is normally equivalent to the market value of the stock on the date of the grant. These options differ from listed options in that there is usually a minimum holding period required before the options can be exercised. In addition, the options are long-term in nature (typically ten years) and are strictly nonmarketable. MANAGERIAL STOCK OPTIONS HAVE been proposed as a method that ameliorates the agency problems that exist between managers and shareholders (Haugen and SenbetSince Jensen and Meckling (1976), it has been widely held that agency costs are reduced by relating an executive's compensation to firm performance (e.g., Beck and Zorn (1982) and Haugen and Senbet (1981)). The empirical evidence indicates that proposed changes in long-range managerial compensation plans (option, restricted stock, performance, stock appreciation rights, and phantom stock) are met with positive share price reactions (e.g., Brickley, Bhagat, and Lease (1985)).The positive share price reaction to the announcement of executive stock option plans is consistent with the contention that these plans improve managerial incentives. Improved incentives are the reason most often cited by firms seeking shareholder approval for the adoption of stock option plans. A study by Masson (1971) found that firms with compensation packages that emphasize stock market performance (and de-emphasize other firm performance measures) outperform firms without such an arrangement. Murphy (1985) also finds that

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This study tests whether belief differences affect the cross-sectional variation of riskneutral skewness using data on firm-level stock options traded on the Chicago Board Options Exchange from 2003 to 2006. We find that stocks with greater belief differences have more negative skews, even after controlling for systematic risk and other firm-level variables known to affect skewness. Factor analysis identifies latent variables linked to risk and belief differences. The belief factor explains more variation in the risk-neutral skewness than the risk-based factor. Our results suggest that belief differences may be one of the unexplained firm-specific components affecting skewness.