Compensation Vega, Deregulation, and Risk‐Taking: Lessons from the US Banking Industry

This study examines three issues related to the sensitivity of bank CEO compensation to risk, or vega: (1) its relevance compared with CEO compensation vega in industrial firms; (2) its determinants; and (3) its effect on bank risk‐taking. Using a sample of 156 US bank holding companies (BHCs) and a benchmark sample of 544 industrial firms over the period 1993–2006, we find that the vega of CEO compensation in banking is of a much smaller magnitude than the vega of CEO compensation in industrial firms, despite an effort by BHCs to increase it since the mid‐1990s. We also find that larger BHCs with better investment opportunities and those that operate in a deregulated environment reward their CEOs with a compensation that has a higher sensitivity to risk. Finally, our analyses show that BHCs in which CEOs receive a higher compensation vega assume a higher risk.