CEO incentives for risk shifting and its effect on corporate bank loan cost

Using a sample from 1993 to 2010 of U.S. corporate bank loans, we study the relationship between CEO incentives for risk-shifting, proxied by Vega, and the cost of corporate bank loans. Equity-based compensation can enhance risk-shifting incentives, encouraging managers to make risky choices to increase shareholder wealth at the expense of creditors. Our results indicate that firms borrow at higher rates when having CEOs with higher risk incentives. This is consistent with previous literature which state that more equity-based compensation can align CEO and shareholder objectives, but it can also increase the agency cost of debt encouraging lenders to protect themselves against risk-shifting.