What Cosmo Kramer Can Teach Us About Optimal Stopping Times

Abstract

The real option literature on investment provides insights into firms' decisions to enter and exit markets. This literature emphasizes the role of fixed costs of entry, the salvage value of exit, and uncertainty. A major implication of this literature is that it is often optimal to wait. Nonetheless, since the overwhelming majority of this literature uses models with uncertainty, students are often unclear as to the role of each of these components in determining the value of the option to wait. In this paper, I explain the role of uncertainty and costs/salvage value by considering the question: 'When is it optimal to stop telling the Bob Sacamano story?' In doing so, I provide a simple and entertaining example to illustrate the importance of uncertainty in the real options literature.

Keywords: optimal stopping times, Seinfeld, Bob Sacamano

JEL Classification: E22