| Abstract: | We investigate the incentives that misvaluation creates for: (1) insider trading; and (2) concurrent earnings management through both accruals and real activities. Managers of overvalued firms have an incentive to sustain overvaluation through income increasing earnings management and, at the same time, to sell their shares (Jensen, 2005 ). Managers of undervalued firms benefit from buying their firm's shares, however the negative effects of downward earnings management may offset incentives to enhance trading advantages. The results indicate that managers of both over‐ and under‐valued firms act opportunistically, managing earnings upward (downward) with accruals while selling (buying) shares. The Sarbanes‐Oxley Act of 2002 (SOX) has been largely ineffective in eliminating trading motivated earnings management. Finally, we do not find evidence of a relationship between managerial trading and real earnings management. |
