DP13888 Financial Policies and Internal Governance with Heterogeneous Risk Preferences

Author(s): Shiqi Chen, Bart Lambrecht
Publication Date: July 2019
Keyword(s): governance, Group decisions, investment, Payout, Risk Preference
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=13888

We consider a group of investors with heterogeneous risk preferences that determines a firm's investment policy, and each investor's compensation function. The optimal investment policy is a time-varying weighted average of investors' optimal policies and converges to the policy of the least (most) risk averse investor in booms (busts), reconciling the diversification of opinions hypothesis and the group shift hypothesis. The most (least) risk averse investor has a strictly concave (convex) claim on the firm's net worth. For intermediate risk preferences investors' claim is S-shaped, resembling preferred stock. We derive investors' utility weights absent wealth distribution and under social optimization.