Is there a link between fraud and overconfidence?

Certainly seems to be the case, according to research out of Wharton.

The interesting part about this research is the way it points to the slippery slope, starting out perhaps when an executive might think his firm is experiencing only a bad quarter or patch of bad luck, and believes it is in the best interest of everyone involved, from management, right through to creditors and shareholders, to cover up the problem. They start out with the idea of doing it in the short term so that no one misinterprets the poor performance as a sign of the future. Do it once, open the door and it turns into a pattern. The trouble is that overconfident executives are more likely to do this.

That's why any sign of earnings management in a quarter needs to be jumped on immediately.

Significantly, the researchers found that executives at fraudulent firms were more overconfident than those at firms where fraud did not occur. Just as importantly, these firms did not have the standard of governance that would counteract their tendency to commit fraud. Also firms that had overconfident, and fraud-prone, executives were more likely to pay low dividends, or none at all.