Optimal investment under operational flexibility, risk aversion, and uncertainty
2011 (English)In: European Journal of Operational Research, ISSN 0377-2217, Vol. 213, no 1, 221-237 p.Article in journal (Refereed) Published
Traditional real options analysis addresses the problem of investment under uncertainty assuming a risk-neutral decision maker and complete markets. In reality, however, decision makers are often risk averse and markets are incomplete. We confirm that risk aversion lowers the probability of investment and demonstrate how this effect can be mitigated by incorporating operational flexibility in the form of embedded suspension and resumption options. Although such options facilitate investment, we find that the likelihood of investing is still lower compared to the risk-neutral case. Risk aversion also increases the likelihood that the project will be abandoned, although this effect is less pronounced. Finally, we illustrate the impact of risk aversion on the optimal suspension and resumption thresholds and the interaction among risk aversion, volatility, and optimal decision thresholds under complete operational flexibility.
Place, publisher, year, edition, pages
2011. Vol. 213, no 1, 221-237 p.
Decision analysis, Investment under uncertainty, Real options, Operational flexibility, Risk aversion
IdentifiersURN: urn:nbn:se:su:diva-68294DOI: 10.1016/j.ejor.2011.03.007ISI: 000291082100021OAI: oai:DiVA.org:su-68294DiVA: diva2:477970
authorCount :32012-01-152012-01-032012-01-15Bibliographically approved