The Case of 'ESOARS' and 'Auction-Rate Securities' ('ARS')

Abstract

This article: i) explains why ESOARS (Employee Stock Option Appreciation Securities) and ARS (auction-rate securities) are not securities; ii) explains why ESOARS are technically illegal, and can create significant problems – such as information asymmetry; exacerbation of agency problems; illegal monetization of ESOs; synthetic and illegal re-pricing/backdating of Employee Stock Options (ESOs); etc.; iii) illustrates how ESOARS are very much subject to human biases and group behaviors that can distort the prices and liquidity of associated financial instruments (such as ESOs; Repos; etc.) and introduces some theories of behavior; iv) surveys the literature on bidder-behavior in auctions and critiques the literature on Prospect Theory (PT), Cumulative Prospect Theory (CPT) and Third Generation Prospect Theory (PT3 ); v) introduces solutions to some of the problems in ARS markets (including sovereign bond/bill markets around the world); vi) explains how ARS can facilitate earnings management, incentive effects management and asset-quality management; vii) shows why ARS-ownership and ESOARS-ownership and the associated auction processes are forms of Strategic Alliances; viii) explains why ESOARS-auctions, the ESOARS market, ARS auctions and the ARS market are the largest empirical evidence that Prospect Theory (PT), Cumulative Prospect Theory (CPT) and Third-Generation Prospect Theory (PT3 ) and related methods are invalid.