Stock derivatives and seasoned equity offerings

Abstract

PurposeThe article aims to explore if stock derivative types (stock options and stock warrants) are associated with stock returns for firms undergoing seasoned equity offerings (SEOs).Design/methodology/approachThe authors regress stock returns against stock derivatives for periods around SEO announcements with standard errors clustered at the month level.FindingsThe authors find that lower stock derivatives holdings for the fiscal year after the SEO are associated with superior pre-SEO returns. This can be explained by owners exercising their derivatives to capitalize on the pre-SEO price run-up. The authors find that greater stock option holdings by insiders for the fiscal year after the SEO are associated with superior post-SEO returns for up to ten years after the SEO announcement. This new finding does not hold for stock warrants.Research limitations/implicationsStock derivatives are supplied by Capital IQ. Given their description, the authors infer that stock options are owned largely by insiders. Thus, the insider conclusions for stock options depend on this implication.Practical implicationsStock options and stock warrants can be used strategically to reward stock derivative owners of strong performing firms for past performance. Stock options can be used to motivate insiders (primarily key executives) to achieve superior future performance.Originality/valueThis study is unique in comparing the influence of holdings for stock options and stock warrants on stock price performance around SEOs. The authors show that the sign of the association depends on whether the test includes pre-SEO periods.