Practical Guide to Real Options in Discrete Time

32 Pages Posted: 8 Feb 2007

See all articles by Svetlana Boyarchenko

Svetlana Boyarchenko

University of Texas at Austin - Department of Economics

Sergei Levendorskii

Calico Science Consulting

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Abstract

Continuous time models in the theory of real options give explicit formulas for optimal exercise strategies when options are simple and the price of an underlying asset follows a geometric Brownian motion. This article suggests a general, computationally simple approach to real options in discrete time. Explicit formulas are derived even for embedded options. Discrete time processes reflect the scarcity of observations in the data, and may account for fat tails and skewness of probability distributions of commodity prices. The method of this article is based on the use of the expected present value operators.

Suggested Citation

Boyarchenko, Svetlana I. and Levendorskii, Sergei Z., Practical Guide to Real Options in Discrete Time. International Economic Review, Vol. 48, No. 1, pp. 311-342, February 2007. Available at SSRN: https://ssrn.com/abstract=961920 or http://dx.doi.org/10.1111/j.1468-2354.2007.00427.x

Svetlana I. Boyarchenko (Contact Author)

University of Texas at Austin - Department of Economics ( email )

Austin, TX 78712
United States

Sergei Z. Levendorskii

Calico Science Consulting ( email )

Austin, TX
United States

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