Kulatilaka '93: The Case of a Dual Fuel Boiler: A Review, Gauss Codes and Numerical Examples

Universita degli Studi - L'Aquila, Facolta di Economia, Dip. di Sistemi ed Istituzioni per l'Economia Serie Working Papers di Economia Aziendale

45 Pages Posted: 15 Mar 2001

See all articles by Giuseppe Alesii

Giuseppe Alesii

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

Date Written: February 3, 2001

Abstract

In this short paper some computational aspects of dynamic programming (DP) applied to the real option problem of the dual fuel boiler in (Kulatilaka, 1993) are examined. A Gauss code has been written, and it is reported in the text, for both pedagogical and practical purposes. As a matter of fact, understanding how the code works helps to delve better into the mechanics of the DP algorithm. On the other hand, the reported code is an "hands on" tool for those who want to apply the (Kulatilaka, 1993) model to real business situations. Since the estimation of the stochastic process driving the state variable of the system is crucial for a good application of the model, four different econometric methods have been applied to the estimation of Ornstein - Uhlenbeck parameters, namely OLS for the (Kulatilaka, 1993) and the (Dixit, Pindyck 1994) specifications, GMM and MLLE for (Roncalli, 1999) approach. Several comparative statics exercises have been performed on real data on oil, coal, natural gas and the boiler characteristics.

Keywords: Real options, switching option, hydrocarbons, Bellman Dynamic Programming, Ornstein Uhlenbeck, GMM, MLE, GAUSS codes

JEL Classification: G13, G31

Suggested Citation

Alesii, Giuseppe, Kulatilaka '93: The Case of a Dual Fuel Boiler: A Review, Gauss Codes and Numerical Examples (February 3, 2001). Universita degli Studi - L'Aquila, Facolta di Economia, Dip. di Sistemi ed Istituzioni per l'Economia Serie Working Papers di Economia Aziendale. Available at SSRN: https://ssrn.com/abstract=258690 or http://dx.doi.org/10.2139/ssrn.258690

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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