Assessing Least Squares Monte Carlo for the Kulatilaka Trigeorgis General Real Options Pricing Model

Istituto per le Applicazioni del Calcolo "Mauro Picone" IAC Report Series n.147 6/2008

88 Pages Posted: 30 Jun 2008

See all articles by Giuseppe Alesii

Giuseppe Alesii

University of L'Aquila - Department of Information Engineering, Computer Science

Date Written: June 18, 2008

Abstract

We assess the applicability of (Longstaff and Schwartz, 2001) Least Squares Monte Carlo method to the General Real Options Pricing Model of (Kulatilaka and Trigeorgis, 1994). We study LSMC under different stochastic processes: GBM, up to three dimensions, models 1, 2 and 3 in (Schwartz, 1997), benchmarking every application by lattice methods. We explore empirically a generalization of proposition 1 page 124 in (Longstaff and Schwartz, 2001) with respect to the number of discretization points, of basis functions and the number of simulated paths. We study the speed precision tradeoff of LSMC individual estimates. Finally, we show their statistical properties.

Keywords: Least Squares Monte Carlo, LSMC, Real Options, multi dimensional binomial lattices, moment matching, GBM, Geometric Ornstein Uhlenbeck, Two Factor Model, Three Factor Model, stochastic interest rates

JEL Classification: G13, G31

Suggested Citation

Alesii, Giuseppe, Assessing Least Squares Monte Carlo for the Kulatilaka Trigeorgis General Real Options Pricing Model (June 18, 2008). Istituto per le Applicazioni del Calcolo "Mauro Picone" IAC Report Series n.147 6/2008. Available at SSRN: https://ssrn.com/abstract=1153525 or http://dx.doi.org/10.2139/ssrn.1153525

Giuseppe Alesii (Contact Author)

University of L'Aquila - Department of Information Engineering, Computer Science ( email )

Via Vetoio
Coppito 1
Coppito di L'Aquila AQ, AQ 67010
Italy
0039-862-433156 (Phone)
0039-862-433180 (Fax)

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