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On the Investment-Uncertainty Relationship: A Game Theoretic Real Option Approach

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Author Info

  • Elmar Lukas

    ()
    (Faculty of Economics and Management, Otto-von-Guericke University Magdeburg)

  • Andreas Welling

    ()
    (Faculty of Economics and Management, Otto-von-Guericke University Magdeburg)

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    Abstract

    This paper examines the effect of uncertainty on investment timing in a game theoretical real option model. We extend the settings of Gryglewicz et al. (2008), Wong (2007), and Sarkar (2000) by a more general assumption, i.e. the investment is also influenced by the actions of a second player. The results show that a U-shaped investment-uncertainty relationship generally sustains. However, timing of an investment occurs inefficiently late. Moreover, we show that the influence of uncertainty on the associated first-mover advantage becomes ambiguous, too.

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    File URL: http://www.fww.ovgu.de/fww_media/femm/femm_2012/2012_30.pdf
    File Function: First version, 2011
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    Bibliographic Info

    Paper provided by Otto-von-Guericke University Magdeburg, Faculty of Economics and Management in its series FEMM Working Papers with number 120030.

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    Length: 19 pages
    Date of creation: Nov 2012
    Date of revision:
    Handle: RePEc:mag:wpaper:120030

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    Web page: http://www.ww.uni-magdeburg.de
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    Related research

    Keywords: real option; investment; uncertainty; managerial flexibility; game theory;

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    References

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    1. Gryglewicz, Sebastian & Huisman, Kuno J.M. & Kort, Peter M., 2008. "Finite project life and uncertainty effects on investment," Journal of Economic Dynamics and Control, Elsevier, vol. 32(7), pages 2191-2213, July.
    2. Lund, Diderik, 2005. "How to analyze the investment-uncertainty relationship in real option models?," Review of Financial Economics, Elsevier, vol. 14(3-4), pages 311-322.
    3. Lukas, Elmar & Welling, Andreas, 2012. "Negotiating M&As under uncertainty: The influence of managerial flexibility on the first-mover advantage," Finance Research Letters, Elsevier, vol. 9(1), pages 29-35.
    4. Wong, Kit Pong, 2007. "The effect of uncertainty on investment timing in a real options model," Journal of Economic Dynamics and Control, Elsevier, vol. 31(7), pages 2152-2167, July.
    5. Dirk Hackbarth & Erwan Morellec, 2008. "Stock Returns in Mergers and Acquisitions," Journal of Finance, American Finance Association, vol. 63(3), pages 1213-1252, 06.
    6. Robert C. Merton, 1973. "Theory of Rational Option Pricing," Bell Journal of Economics, The RAND Corporation, vol. 4(1), pages 141-183, Spring.
    7. Sarkar, Sudipto, 2000. "On the investment-uncertainty relationship in a real options model," Journal of Economic Dynamics and Control, Elsevier, vol. 24(2), pages 219-225, February.
    8. Cvitanic, Jaksa & Radas, Sonja & Sikic, Hrvoje, 2011. "Co-development ventures: Optimal time of entry and profit-sharing," Journal of Economic Dynamics and Control, Elsevier, vol. 35(10), pages 1710-1730, October.
    9. Kort, Peter M. & Murto, Pauli & Pawlina, Grzegorz, 2010. "Uncertainty and stepwise investment," European Journal of Operational Research, Elsevier, vol. 202(1), pages 196-203, April.
    10. Morellec, Erwan & Zhdanov, Alexei, 2005. "The dynamics of mergers and acquisitions," Journal of Financial Economics, Elsevier, vol. 77(3), pages 649-672, September.
    11. Lee, Tan, 2004. "Determinants of the foreign equity share of international joint ventures," Journal of Economic Dynamics and Control, Elsevier, vol. 28(11), pages 2261-2275, October.
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