Executive compensation and the credibility of share buyback announcements

Abstract The extant literature views open market share repurchase announcements as a signal of undervaluation, but these lack characteristics of a credible signal and hence can be misleading. In this paper we assess the credibility of the repurchase announcement signal by observing the underlying managerial wealth and repurchase incentives as measured by their compensation arrangements. We find that both short- and longer-term returns (actual repurchases) are positively (negatively) related to manager wealth sensitivity to changes in stock price (Delta and equity holdings) and negatively (positively) related to managerial incentives to increase firm risk (high Vega). These findings are particularly strong for firms with higher information asymmetry, or undervaluation. Our results add to the existing literature by showing that the market appears to be using executive remuneration arrangements to assess the credibility of a repurchase announcement signal and responds accordingly.