Darryl Laws Infp

  Log likelihood. Had I conducted the research I would have chosen to use log likelihood statistic to assess and to depict the  deviance, or -2 log-likelihood (-2LL) statistic . The deviance is basically a measure of how much unexplained variation there is in our logistic regression model the higher the value the less accurate the model. It compares the difference in probability between the predicted outcome and the actual outcome for each case and sums these differences together to provide a measure of the total error in the model. This is similar in purpose to looking at the total of the  residuals  (the  sum of squares ) in linear regression analysis in that it provides us with an indication of how good our model is at predicting the outcome. The -2LL statistic (often called the deviance) is an indicator of how much unexplained information there is after the model has been fitted, with large values of -2LL indicating poorly fitting models.  The  de...

  What robustness checks were conducted? Malmendier and Tate discuss the robustness of their results to the changes in the empirical model. Simply stated they focused upon the baseline estimates of binary regression equation provided in regression method use (above). First, they considered; Is the Option in the Money? Their CEO stock option long holder measure of overconfidence is they classify a CEO as overconfident if he ever holds his company stock option(s) until expiration. The less an option is in the money, the less delayed exercise indicates likely overconfidence. As a robustness check of their measure, they require that the option that is held until expiration be at least x% in the money at the beginning of its final year. They vary x between 0 and 100 by increments of 10. As they increase x, the classification as overconfident becomes more restrictive. Concurrently, they hold the definition of rational option exercise behavior constant. (Example: they require that the CE...

  Translation…the manager’s perceived valuation of the merged company minus what he must give up to target shareholders minus the perceived loss due to dilution must exceed his perceived value of A without the merger. Their model denotes the perceived additional merger synergies as be ∈ R++,12. Hence, they decompose  bV (c) into (2) bV (c) = bVA + VT + e + be – c Acquisition Decision of a Rational CEO. In comparison to the overconfident CEO Malmendier and Tate (2008) compare him / her to the takeover decision of a single rational CEO. They start with the assumption that the acquiror has all bargaining power and  must pay VT for the target. If he offers an amount c < VT of cash financing (or other non-diluting assets), target shareholders demand a share s of the merged company such that sV (c) = VT − c. Since the CEO acts in the interest of current shareholders, he chooses to conduct the takeover if and only if V (c) −(VT −c) > VA. Malmendier and Tate denote the me...

  The measurement they use is the coefficient odds ratio (log likelihood statistic). The odds ratio is crucial to the interpretation of logistics regression. It is an indicator of the change in odds resulting from a unit change in the predictor. The resulting statistic is based upon comparing observed frequencies with the predicted model. When the predictor variable is categorical the odds ratio is easier to explain. This is referred to as the likelihood ratio Field, 2018, pg. 614)  There are two very different approaches to answering the goodness of fit question. One is to get a statistic that measures how well you can predict the dependent variable based on the independent variables. These kinds of statistics are referred to as measures of predictive power . Typically, they vary between 0 and 1, with 0 meaning no predictive power whatsoever and 1 meaning perfect predictions. The other approach to evaluating model fit is to compute a goodness-of-fit statistic. Ordinarily the ...

  Regression method used . Malmendier and Tate use a binary logistic regression methodology to predict categorical outcomes from categorical and continuous predictors when predicting which of the two categories a CEO was likely to belong to; overconfident CEOs (independent variable) verses rational CEOs. The logistic regression or logit model method is appropriate as it is often used to model dichotomous outcome variables such as the dependent variable: CEOs holding their stock options to maturity and CEO’s overly acquisitiveness. In the logit model the log odds of the outcome are modeled as a linear combination of the predictor variables. When OLS regression is used with a binary response variable it becomes known as a linear probability model and can be used to describe conditional probabilities. However, the errors (residuals) from the linear probability model violate the homoskedasticity and normality of errors assumptions for OLS regression, resulting in invalid standard erro...

  Their model is binary because there are two kinds of variation that they use to identify the effect of overconfidence on acquisitiveness, cross-sectional and within-company variation. Malmendier and Tate (2008) solve their regression equation using three estimation procedures: 1) a logit regression, makes use of both types of variation, 2) a logit regression with random effects, also makes use of both types of variation but, it explicitly models the effect of the firm, rather than the CEO, on acquisitiveness. I noted that if the estimated effects of overconfidence in the logit equation are due to company effects, they should expect to see a decline in their estimates if they include random effects. The remainder of their solution uses a logit regression with fixed effects. This regression equation makes use only of the second type of variation, the effect of overconfidence on acquisitiveness using only variation between overconfident and rational CEOs within a particular firm. Fo...

  The empirical tests that the Malmendier and Tate (2008) conducted corroborate their results. First, they show that the observed differences in option exercises and merger decisions are not due to inside information. Instead, the hypothetical returns CEOs could have obtained by exercising their options earlier are positive on average. Second, the acquisitions of overconfident managers are distributed uniformly over their tenures suggesting that the effect of overconfidence is a true managerial fixed effect. Third, to bolster their portfolio measure of overconfidence the authors constructed an alternative measure based on how a CEO is characterized in the press. They analyzed the difference in merger activity between CEOs who are portrayed in the business press as confident and optimistic and CEOs who are portrayed instead as reliable, cautious, conservative, practical, frugal, or steady. Controlling for the total number of press mentions, they performed the same empirical analys...

  The idea that mergers are driven by biases of the acquiring manager has popular appeal, as evidenced in finance literature by authors such as by Roll (1986) who first introduced the hubris hypothesis of corporate takeovers. Building on this literature, Malmendier and Tate posit that overconfident CEOs overestimate the positive impact of their leadership and their ability to select profitable future projects, whether in their current company or in the combined merged companies. Typically, they overestimate the synergies between their company and a potential target’s or underestimate how disruptive the merger will be. As a result, overconfidence induces mergers / acquisitions that are value destroying. At the same time, overconfident CEOs view their company as undervalued by outside investors who are less optimistic about the prospects of the firm. This perceived undervaluation makes overconfident CEOs reluctant to issue equity to finance a merger. The trade-off between perceived ...

  The analysis of overconfidence relates several branches of behavioral economics and psychology literature. First, extensive amount of experimental literature documents the tendency of individuals to consider themselves above average on positive characteristics (Alicke, 1995; Alicke, 1985; Svenson, 1981). Example, Svenson demonstrates that the vast majority of subjects rate their driving skills as above average . Svenson’s finding has been replicated numerous times in various countries and with respect to various IQ or skill related outcomes like driving. When asking a sample of entrepreneurs about their chances of success, Cooper (1988) found that 81% answered between 0 and 30% (with 33% attaching exactly zero probability to failure). However, when asked the odds of any business like theirs failing, only 39% of them answered between 0 and 30%. Larwood and Whittaker (1977) find that corporate executives are particularly prone to this form of self-serving bias. The better than ave...

  Thus, there are two main theories; 1) rational responses to agency costs and 2) irrational response to managerial hubris that have been detrimental to explain why managers make value destroying acquisitions. Although the hubris hypothesis has considerable intuitive appeal it has only been lesser subjected to empirical testing. Behavioral assumptions such as overconfidence have become common in articles written on asset prices, but corporate finance literature has largely neglected behavioral economic assumptions in models of managerial decision-making (Barberis, 2003). In the real world of uncertainty, competitiveness, macro-economic change or competitor pre-emption may render apparently realistic acquisition targets unavailable or unattractively expensive (Bradley, 1988). All management teams face the same dilemmas when making takeover decisions, any acquisition target carries the risk of overpayment, which may be founded on unconscious irrational justifications, such as an over...

  Introduction. The biggest challenge for the analysis of CEO overconfidence is; “How to construct a plausible measure of overconfidence?” Biased beliefs naturally defy direct and precise measurement (Malmendier and Tate, 2004). Malmendier and Tate’s (2004) previous work proposes two approaches to measurement; 1) the first is a revealed beliefs argument. They infer CEOs’ beliefs about the future performance of the company from their personal portfolio of stock options transactions, (incentive compensation), 2) the second approach captures how outsiders, the public and press, perceive the CEO. They classify CEOs as overconfident based on their portrayal in the press. This measure was proposed by Malmendier and Tate in 2005, builds on the perception of outsiders. The authors conducted a study of Forbes 500 companies which was comprised of their collecting data on how the press portrays each of the CEOs during a sample period 1980 to 1994. They search articles referring to the CEOs...

  Who Makes Acquisitions? CEO Overconfidence and The Market’s Reaction .   Ulrike Malmendier and Geoffrey Tate, 2008, Journal of Financial Economics, Elsevier Abstract. Overconfident CEOs over-estimate their ability in numerous ways. One of which is their over estimation to generate returns (ROE, cash dividends) to their companies. Often, they undertake mergers or acquisitions that destroy their own company’s value. Overconfident CEOs often perceive outside financing cost to be over-priced.  Malmendier and Tate (2008) classify CEOs as overconfident when they hold their options in their own company’s stock until expiration. The authors find; 1) that these CEOs are more acquisitive on average, particularly via diversifying acquisitions transactions which are not germane to their core business, 2) the effects are more ostensible on firms with abundant cash and untapped debt capacity, 3) that the measure of overconfidence used, media (press) coverage as confident or optimisti...