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Real Options under Choquet-Brownian Ambiguitys

Author

Listed:
  • David Roubaud
  • André Lapied
  • Robert Kast
Abstract
Real options models characterized by the presence of “ambiguity” (or “Knightian uncertainty”) have been recently proposed. But based on recursive multiple-priors preferences, they typically describe ambiguity through a range of Geometric Brownian motions and solve it by application of a maxmin expected utility criterion among them (worst case). This reduces acceptable individual preferences to the single case of an extreme form of pessimism. In contrast, by relying on dynamically consistent “Choquet-Brownian” motions to represent the ambiguous cash flows expected from a project, we show that a much broader spectrum of attitudes towards ambiguity may be accounted for, improving the explanatory and application potentials of these appealing expanded real options models. In the case of a perpetual real option to invest, ambiguity aversion may delay the moment of exercise of the option, while the opposite holds true for an ambiguity seeking decision maker. Furthermore, an intricate relationship between risk and ambiguity appears strikingly in our model.

Suggested Citation

  • David Roubaud & André Lapied & Robert Kast, 2010. "Real Options under Choquet-Brownian Ambiguitys," Working Papers 10-20, LAMETA, Universtiy of Montpellier, revised 2010.
    • Handle: RePEc:lam:wpaper:10-20
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    File URL: http://www.lameta.univ-montp1.fr/Documents/DR2010-20.pdf
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    Cited by:

    1. Leh-Chyan So, 2014. "Are Real Options "Real"? Isolating Uncertainty From Risk In Real Options Analysis," Annals of Financial Economics (AFE), World Scientific Publishing Co. Pte. Ltd., vol. 9(01), pages 1-18.
    2. Álvaro Cartea & Sebastian Jaimungal, 2017. "Irreversible Investments And Ambiguity Aversion," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 20(07), pages 1-26, November.
    3. So, Leh-chyan, 2013. "Are Real Options “Real”? Isolating Uncertainty from Risk in Real Options Analysis," MPRA Paper 52493, University Library of Munich, Germany.
    4. David Roubaud & Alain Lapied & Robert Kast, 2017. "Modelling under ambiguity with two correlated Choquet-Brownian motions," Economics Bulletin, AccessEcon, vol. 37(2), pages 1012-1020.
    5. Tarik Driouchi & Lenos Trigeorgis & Raymond H. Y. So, 2018. "Option implied ambiguity and its information content: Evidence from the subprime crisis," Annals of Operations Research, Springer, vol. 262(2), pages 463-491, March.
    6. David Roubaud, 2022. "A real option to divest with two correlated sources of ambiguity," Economics Bulletin, AccessEcon, vol. 42(2), pages 591-602.
    7. Flor, Christian Riis & Hesel, Søren, 2015. "Uncertain dynamics, correlation effects, and robust investment decisions," Journal of Economic Dynamics and Control, Elsevier, vol. 51(C), pages 278-298.
    8. Kast, Robert & Lapied, André & Roubaud, David, 2014. "Modelling under ambiguity with dynamically consistent Choquet random walks and Choquet–Brownian motions," Economic Modelling, Elsevier, vol. 38(C), pages 495-503.

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