As mentioned in an earlier post, the SEC has its own chief economist, Chester Spatt, who oversees the Office of Economic Analysis.
Last Thursday, Mr. Spat spoke at a private investment trust conference at Carnegie-Mellon University. His speech did not address the current tussle over the derived option markets being developed jointly by the SEC and the technology sector; he only mentioned that “issuers may indeed utilize efforts to construct marketed instruments that replicate the cash flows and valuations of employee stock options. Of course, it would be important for the instrument and the associated market process to be properly designed in order to provide an estimate of the fair value cost incurred by the firm in issuing employee stock options.”
“Proper design” is what the argument is all about, so far. The concern is that what issuers call “proper design” might be called a “structured transaction” by investors.
Anyway, there were some other interesting questions raised by Mr. Spatt in his speech, having to do with executive compensation and stock options. A couple excerpts that might make your wheels turn a little faster; in all cases the emphasis is my own, not Mr. Spatt’s.
“One striking feature of these (option)programs is the discreteness of vesting dates and option exercise dates. The option grants tend to occur infrequently, e.g., annually or quarterly. This seems to be rather puzzling. Why is that an efficient form of compensation, for example, as compared to a more continuous set of vesting dates, option exercise dates and option exercise prices? Given that relevant economic decisions are being made more frequently (continuously?), it is hard to rationalize compensation that is so discontinuous. Discontinuous compensation is vulnerable to manipulation, without obvious advantages over a smooth compensation profile.”
“If the option moves too far out of the …