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Real Options, Product Market Competition, and Asset Returns

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  • FELIPE L. AGUERREVERE
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    Abstract

    We study how competition in the product market affects the link between firms' real investment decisions and their asset return dynamics. In our model, assets in place and growth options have different sensitivities to market wide uncertainty. The strategic behavior of market participants influences the relative importance of these components of firm value. We show that the relationship between the degree of competition and assets' expected rates of return varies with product market demand. When demand is low, firms in more competitive industries earn higher returns, whereas when demand is high firms in more concentrated industries earn higher returns. Copyright (c) 2009 the American Finance Association.

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    Bibliographic Info

    Article provided by American Finance Association in its journal The Journal of Finance.

    Volume (Year): 64 (2009)
    Issue (Month): 2 (04)
    Pages: 957-983

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    Handle: RePEc:bla:jfinan:v:64:y:2009:i:2:p:957-983

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    Cited by:
    1. Kraft, Holger & Schwartz, Eduardo & Weiss, Farina, 2013. "Growth options and firm valuation," SAFE Working Paper Series 6, Research Center SAFE - Sustainable Architecture for Finance in Europe, Goethe University Frankfurt.
    2. Maria Cecillia Bustamante, 2011. "Strategic Investment, Industry Concentration and the Cross Section of Returns," FMG Discussion Papers dp681, Financial Markets Group.
    3. Bazdresch, Santiago, 2011. "Product differentiation and systematic risk: theory and empirical evidence," MPRA Paper 35504, University Library of Munich, Germany, revised 01 Nov 2011.
    4. Chengru Hu & Wei Jiang & Cheng-few Lee, 2013. "Managerial flexibility and the wealth effect of new product introductions," Review of Quantitative Finance and Accounting, Springer, vol. 41(2), pages 273-294, August.
    5. Huang, Hsing-Hua & Chuang, Wei-Liang, 2013. "Real options game over the business cycle," Economic Modelling, Elsevier, vol. 35(C), pages 715-721.
    6. Holger Kraft & Eduardo S. Schwartz & Farina Weiss, 2013. "Growth Options and Firm Valuation," NBER Working Papers 18836, National Bureau of Economic Research, Inc.
    7. Vivek Sharma, 2011. "Stock returns and product market competition: beyond industry concentration," Review of Quantitative Finance and Accounting, Springer, vol. 37(3), pages 283-299, October.
    8. Alon Brav & Wei Jiang & Hyunseob Kim, 2011. "The Real Effects of Hedge Fund Activism: Productivity, Risk, and Product Market Competition," NBER Working Papers 17517, National Bureau of Economic Research, Inc.
    9. Alon Brav & Wei Jiang & Hyunseob Kim, 2012. "The Real Effects of Hedge Fund Activism: Productivity, Risk, and Product Market Competition," Working Papers 12-14, Center for Economic Studies, U.S. Census Bureau.
    10. Maria Cecilia Bustamante, 2011. "Strategic investment, industry concentration and the cross section of returns," LSE Research Online Documents on Economics 37454, London School of Economics and Political Science, LSE Library.
    11. Huang, Hsing-Hua & Lee, Han-Hsing, 2013. "Product market competition and credit risk," Journal of Banking & Finance, Elsevier, vol. 37(2), pages 324-340.
    12. Guthrie, Graeme, 2013. "A value premium without operating leverage," Finance Research Letters, Elsevier, vol. 10(1), pages 1-11.
    13. Azevedo, Alcino & Paxson, Dean, 2014. "Developing real option game models," European Journal of Operational Research, Elsevier, vol. 237(3), pages 909-920.
    14. Makoto Goto & Katsumasa Nishide & Ryuta Takashima, 2013. "Irreversible Investment under Competition with a Markov Switching Regime," KIER Working Papers 861, Kyoto University, Institute of Economic Research.

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