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The Role of Uncertainty in Investment: An Examination of Competing Investment Models Using Commercial Real Estate Data

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  • A. Steven Holland
  • Steven H. Ott
  • Timothy J. Riddiough

Abstract

Neoclassical investment decision criteria suggest that only the systematic component of total risk affects the rate of investment, as channeled through the built-asset price. Alternatively, option-based investment models suggest a direct role for total uncertainty in investment decisionmaking. To sort out uncertainty's role in investment, we specify and empirically estimate a structural model of asset-market equilibrium. Commercial real estate time-series data with two distinct measures of asset price and uncertainty are used to assess the competing investment models. Empirical results generally favor predictions of the option-based model and hence suggest that irreversibility and delay are important considerations to investors. Our findings also have implications for macroeconomic policy and for forecasts of cyclical investment activity. Copyright American Real Estate and Urban Economics Association.

Suggested Citation

  • A. Steven Holland & Steven H. Ott & Timothy J. Riddiough, 2000. "The Role of Uncertainty in Investment: An Examination of Competing Investment Models Using Commercial Real Estate Data," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 28(1), pages 33-64.
  • Handle: RePEc:bla:reesec:v:28:y:2000:i:1:p:33-64
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