Darryl Laws

 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 analysis as with the portfolio overconfidence measure. Their results replicated the previous results. Furthermore, they posit that the two measures are highly correlated.

In concluding their research Malmendier and Tate (2008) investigated the capital market’s perception / reaction to the merger / acquisition decisions made by overconfident CEOs. They used a standard event study methodology to show that outside investors react more negatively to the announcement of a bid if the CEO is overconfident. 

Sample. Malmendier and Tate’s (2008) used the sample to test ad validate their propositions. The sample was comprised of 477 large publicly traded U.S. companies between the years 1980 to 1994. To be included in the in the sample required that a company must appear at least four times on one of the lists of largest US companies compiled by Forbes magazine between 1984 to 1994. IPOs were excluded. The core of their data set provides detailed information on the stock ownership and set of option packages, including exercise price, maturity, and number of underlying shares for the CEO of each company in each year. From this data they were able to obtain a fairly detailed picture of the CEO’s personal portfolio rebalancing over his tenure.

As mentioned previously the authors collected data on how the press portrayed each of the CEOs during the sample period. For each CEO, they recorded four statistics: the total number of articles; the number of articles containing the words confident or confidence; the number of articles containing the words optimistic or optimism; and the number of articles containing the words reliable, cautious, conservative, practical, frugal, or steady. They supplemented this CEO data with merger data from the SDC and CRSP merger databases. Both data sets give them the bid / offer announcement date and means of financing for merger / acquisition being conducted by the sample of companies. They used the SDC data to supplement the set of mergers with acquisitions of private firms and large subsidiaries. They also supplemented the data with various items from the COMPUSTAT database.

In an effort to restrain the length of this paper I will focus my critique and analysis on the first of the three propositions that Malmendier and Tate (2008) put forth in their article; the acquisitiveness of overconfident CEOs.

Darryl Laws