In the paper, The Optimal Duration of Executive Compensation: Theory and Evidence, which was recently made publically available on SSRN, we ask several questions: How long does it take for a typical executive pay contract to vest, and how does this vary in the cross-section? Does the mix of short-term and long-term pay affect executive behavior? We first develop a simple model to understand the determinants of executive pay duration, and then take its predictions to a unique dataset. Our model has two features. First, the stock market can misprice a firm’s equity in the short-run. Second, the executive can engage in inefficient extraction of private benefits which can be partly moderated through a long-term incentive contract. This setting allows us to focus on the shareholders’ tradeoff between short-term and long-term pay for the CEO. Given the potential for short-term mispricing of the firm’s stock, awarding the CEO short-term stock compensation allows her to benefit from the option of selling overvalued stock, which effectively lowers the initial shareholders’ cost of compensating the CEO. However, exclusive reliance on short-term compensation also encourages the CEO to behave myopically, diverting effort to the extraction of inefficient private benefits at the expense of long-term value. Thus, providing the CEO with long-term compensation is essential to attenuate this moral hazard. This model generates three main predictions. First, optimal pay duration is decreasing in the magnitude of stock mispricing. Second, optimal pay duration is longer in firms with poorer corporate governance. Third, CEOs with shorter pay durations are more likely to engage in myopic investment behaviors and this relation between pay duration and investment myopia is stronger when the extent of stock mispricing is larger.

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