{"title":"Multi-stage real option evaluation with double barrier under stochastic volatility and interest rate","authors":"Michele Bufalo, Antonio Di Bari, Giovanni Villani","doi":"10.1007/s10436-021-00403-6","DOIUrl":null,"url":null,"abstract":"<div><p>This paper focuses on valuing R&D projects using a twofold compound real option by including two knock-out barriers. However, the valuation of R&D projects is not a simple task, since they are characterised by various risks and sequential decision-making. Specifically, we embed a double-barrier in the multi-stage real option in order to mitigate the risk of huge losses for the investor. In this way, our model incorporates the opportunity to abandon a project if its profitability falls below a benchmark level. We contribute to the existing literature in these ways: first we present a closed formula that allows evaluating this kind of project assuming the technical uncertainty of each research phase; secondly, we consider the scenario in which the volatility and the interest rate are both stochastic. Finally, we provide an application for a wind farm case.</p></div>","PeriodicalId":45289,"journal":{"name":"Annals of Finance","volume":null,"pages":null},"PeriodicalIF":0.8000,"publicationDate":"2022-01-08","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"https://link.springer.com/content/pdf/10.1007/s10436-021-00403-6.pdf","citationCount":"2","resultStr":null,"platform":"Semanticscholar","paperid":null,"PeriodicalName":"Annals of Finance","FirstCategoryId":"1085","ListUrlMain":"https://link.springer.com/article/10.1007/s10436-021-00403-6","RegionNum":0,"RegionCategory":null,"ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":null,"EPubDate":"","PubModel":"","JCR":"Q4","JCRName":"BUSINESS, FINANCE","Score":null,"Total":0}
引用次数: 2
Abstract
This paper focuses on valuing R&D projects using a twofold compound real option by including two knock-out barriers. However, the valuation of R&D projects is not a simple task, since they are characterised by various risks and sequential decision-making. Specifically, we embed a double-barrier in the multi-stage real option in order to mitigate the risk of huge losses for the investor. In this way, our model incorporates the opportunity to abandon a project if its profitability falls below a benchmark level. We contribute to the existing literature in these ways: first we present a closed formula that allows evaluating this kind of project assuming the technical uncertainty of each research phase; secondly, we consider the scenario in which the volatility and the interest rate are both stochastic. Finally, we provide an application for a wind farm case.
期刊介绍：
Annals of Finance provides an outlet for original research in all areas of finance and its applications to other disciplines having a clear and substantive link to the general theme of finance. In particular, innovative research papers of moderate length of the highest quality in all scientific areas that are motivated by the analysis of financial problems will be considered. Annals of Finance''s scope encompasses - but is not limited to - the following areas: accounting and finance, asset pricing, banking and finance, capital markets and finance, computational finance, corporate finance, derivatives, dynamical and chaotic systems in finance, economics and finance, empirical finance, experimental finance, finance and the theory of the firm, financial econometrics, financial institutions, mathematical finance, money and finance, portfolio analysis, regulation, stochastic analysis and finance, stock market analysis, systemic risk and financial stability. Annals of Finance also publishes special issues on any topic in finance and its applications of current interest. A small section, entitled finance notes, will be devoted solely to publishing short articles – up to ten pages in length, of substantial interest in finance. Officially cited as: Ann Finance
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