Overconfident CEOs more likely to expose businesses to risk

Companies led by overconfident chief executives are potentially more exposed to political and regulatory risks because they engage in significantly less corporate lobbying, University of Queensland research has found.

A study led by Dr Shirina Lin from UQ’s Business School analysed data from 1,369 US firms across 64 industries between 2002 and 2023, measuring CEO confidence through executive’s behaviour with their company’s stock options.  

"Risk-averse CEOs will typically exercise profitable stock options to reduce their personal exposure to firm-specific risk," Dr Lin said. 

"But overconfident CEOs are more likely to keep holding those options because they’re overly optimistic about their own abilities and the company's future performance.”

Dr Lin said analysis of 37,000 firm-quarter observations showed companies led by overconfident CEOs spent around 24 per cent less on lobbying per quarter than other companies. 

"Corporate lobbying is often used by businesses to build political connections, influence policy outcomes and help mitigate risks arising from regulatory change," she said.

“Lobbying decisions are often directed by CEOs, making individual leadership traits particularly influential in shaping company behaviour.

“Not only did we find firms led by overconfident CEOs invested substantially less in lobbying activities, but they were also more likely to avoid lobbying altogether."

The research found overconfident CEOs reduced lobbying activity when political risks were higher. 

"In situations where lobbying may provide the greatest benefit as a risk-management tool, these CEOs were even less likely to engage," Dr Lin said.

"Even after the Global Financial Crisis when many firms increased their lobbying efforts to try to manage political and economic uncertainty, companies led by overconfident CEOs reduced their lobbying.”

Dr Lin said overconfidence was often associated with arrogance, but in research terms was about someone having an inflated belief in their own abilities.

"Overconfident leaders tend to place excessive faith in their own judgement and believe they have greater control over outcomes than they actually do," she said.

"Our research shows personal characteristics can influence not only traditional business decisions but also corporate political activity, which is often less visible to shareholders and the public.”

Co-author Dr Dewan Rahman said overconfident leaders can also be an asset to companies with their ability to make bold decisions. 

“We know they can encourage greater risk-taking, experimentation and even breakthrough innovation,” Dr Rahman said.

“But the same confidence that can drive innovation may also lead executives to underestimate risks, making these behavioural traits particularly important to understand.”

Dr Lin said the findings may have important implications for boards, investors and shareholders.

"Lobbying activity is publicly disclosed, but it's not information that most shareholders typically monitor," she said.

"Greater transparency around corporate political activity could help stakeholders better understand how firms are responding to political and regulatory risks.

"The findings suggest boards and investors should pay closer attention to how leadership traits may influence important strategic decisions."

Read the research in Journal of Banking & Finance.

Collaboration and acknowledgements