Investment Decisions with Two-Factor Uncertainty

CentER Discussion Paper Series No. 2018-003

21 Pages Posted: 13 Feb 2018

See all articles by Tine Compernolle

Tine Compernolle

University of Antwerp - Department of Economics

Kuno Huisman

Tilburg University, CentER; ASML

Peter M. Kort

Tilburg University - Department of Econometrics & Operations Research; Tilburg University - Center for Economic Research (CentER)

Maria Lavrutich

Norwegian University of Science and Technology

Cláudia Nunes

University of Lisbon - CEMAT

Jacco Thijssen

University of York - Department of Mathematics

Date Written: October 6, 2017

Abstract

This paper considers investment problems in real options with non-homogeneous two-factor uncertainty. It shows that, despite claims made in the literature, the method used to derive an analytical solution in one dimensional problems cannot be straightforwardly extended to problems with two stochastic processes. To illustrate, we analyze an investment problem with two stochastic revenue streams and a constant sunk cost. We show that a semi-analytical approach leads to a sub-optimal investment policy. The main message of our paper is that non-homogeneous investment problems can only be solved numerically.

Keywords: Investment analysis; Optimal stopping time problem; Two-factor uncertainty

JEL Classification: C65, D81, L12

Suggested Citation

Compernolle, Tine and Huisman, Kuno J.M. and Kort, Peter and Lavrutich, Maria and Nunes, Cláudia and Thijssen, Jacco, Investment Decisions with Two-Factor Uncertainty (October 6, 2017). CentER Discussion Paper Series No. 2018-003, Available at SSRN: https://ssrn.com/abstract=3120301 or http://dx.doi.org/10.2139/ssrn.3120301

Tine Compernolle (Contact Author)

University of Antwerp - Department of Economics ( email )

Prinsstraat 13
Antwerp, B-2000
Belgium

Kuno J.M. Huisman

Tilburg University, CentER ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

ASML ( email )

De Run 6501
Veldhoven, 5504 DR
Netherlands

Peter Kort

Tilburg University - Department of Econometrics & Operations Research ( email )

Tilburg, 5000 LE
Netherlands
+31 13 466 2062 (Phone)
+31 13 466 3072 (Fax)

HOME PAGE: http://center.uvt.nl/staff/kort/

Tilburg University - Center for Economic Research (CentER) ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands
+31 13 466 2062 (Phone)
+31 13 466 3072 (Fax)

Maria Lavrutich

Norwegian University of Science and Technology ( email )

NO-7491 Trondheim
Norway

Cláudia Nunes

University of Lisbon - CEMAT ( email )

Av. das Forças Armadas
Lisboa, 1749-016
Portugal

Jacco Thijssen

University of York - Department of Mathematics ( email )

Heslington, York YO10 5DD
United Kingdom

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