Investment timing under hybrid stochastic and local volatility

Research output: Contribution to journalArticle

4 Citations (Scopus)

Abstract

We consider an investment timing problem under a real option model where the instantaneous volatility of the project value is given by a combination of a hidden stochastic process and the project value itself. The stochastic volatility part is given by a function of a fast mean-reverting process as well as a slowly varying process and the local volatility part is a power (the elasticity parameter) of the project value itself. The elasticity parameter controls directly the correlation between the project value and the volatility. Knowing that the project value represents the market price of a real asset in many applications and the value of the elasticity parameter depends on the asset, the elasticity parameter should be treated with caution for investment decision problems. Based on the hybrid structure of volatility, we investigate the simultaneous impact of the elasticity and the stochastic volatility on the real option value as well as the investment threshold.

Original languageEnglish
Pages (from-to)58-72
Number of pages15
JournalChaos, Solitons and Fractals
Volume67
DOIs
Publication statusPublished - 2014 Oct

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Volatility
Elasticity
Timing
Real Options
Stochastic Volatility
Process Mean
Decision problem
Control Parameter
Instantaneous
Stochastic Processes
Model

All Science Journal Classification (ASJC) codes

  • Statistical and Nonlinear Physics
  • Mathematics(all)
  • Physics and Astronomy(all)
  • Applied Mathematics

Cite this

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abstract = "We consider an investment timing problem under a real option model where the instantaneous volatility of the project value is given by a combination of a hidden stochastic process and the project value itself. The stochastic volatility part is given by a function of a fast mean-reverting process as well as a slowly varying process and the local volatility part is a power (the elasticity parameter) of the project value itself. The elasticity parameter controls directly the correlation between the project value and the volatility. Knowing that the project value represents the market price of a real asset in many applications and the value of the elasticity parameter depends on the asset, the elasticity parameter should be treated with caution for investment decision problems. Based on the hybrid structure of volatility, we investigate the simultaneous impact of the elasticity and the stochastic volatility on the real option value as well as the investment threshold.",
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Investment timing under hybrid stochastic and local volatility. / Kim, Jeong Hoon; Lee, Min Ku; Sohn, So Young.

In: Chaos, Solitons and Fractals, Vol. 67, 10.2014, p. 58-72.

Research output: Contribution to journalArticle

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