What Does an Executive Stock Sale Tell the Market? Evidence From Sale Transactions Following Stock Option Exercises

Abstract

We examine the impact of liquidity and diversification, taxes, and loss aversion on the informativeness of insider sales following stock option exercise. We do not find evidence of liquidity and diversification influencing post exercise sale decisions, suggesting that option related sales are less impacted by these forces than previously thought. We further find evidence that sales more likely to be influenced by taxes are associated with less negative post sale returns. This finding extends prior tax research by showing evidence that insiders are selling soon after the tax advantaged holding period is achieved, and also that these sales are less informative about future returns. Finally, we provide a more distinct contribution to the literature in our examination of loss aversion. Specifically, we provide evidence that the exercise price is the most likely reference point for establishing the gain and loss domain for the insider. We further show that as the price approaches this reference point, sales become less informative and insiders are less willing to continue holding. We also examine short window market reactions to sales among each of these dimensions, finding that the market generally interprets the impact of each of these factors in a manner that is consistent with the post-sale returns.