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This paper draws upon the idea that the expression of CEO overconfidence is contingent to corporate features such as power allocation, quality of corporate governance and entrenchment opportunities. Seeing overconfidence as a belief conditioned by specific contextual elements, rather then an innate unconditional trait, introduces an endogeneity problem in the study of this belief's consequences on firm performance. We use a propensity score matching model that addresses the issue of endogeneity of CEO overconfidence and aims to measure the selection-free effect of this belief on firms' performance. We show that firms with overconfident CEOs outperform similar firms with realistic CEOs. Both operational performance (measured by ROA and ROE), value (measured by Tobin's Q ratio) and stock performance (measured by CARs) are improved for firms whose CEOs became overconfident during the sample period. One of the implications of this result is that CEO overconfidence can be seen as a substitute to corporate governance mechanisms as it allows stronger incentives alignment between executives and shareholders.
Author(s):
Ivana Vitanova
Université Lyon 2
France