Market Reaction to Limiting Executive Compensation: Evidence from TARP Firms

Abstract

Using 256 TARP recipients, I find that markets negatively react to the news on limiting executive compensations. Although investors react quite positively for the initial announcement of TARP on October 14, 2008, other announcements regarding compensation regulation including a strict $500,000 salary cap are perceived as bad news in the market. The results are more supportive of the managerial talent hypothesis, which implies that investors are concerned about losing talented executives due to the upper limit of the salary. Splitting the sample by various possible determinants for CARs, I also find that firm size as well as financial performance is an important factor in determining the level of abnormal returns. In conclusion, shareholders of larger and better performing firms are concerned about the potential loss of talent arising from a salary cap.