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Investment timing under incomplete information

Décamps, Jean-Paul, Mariotti, Thomas and Villeneuve, Stephane (2003) Investment timing under incomplete information. TE (444). Suntory and Toyota International Centres for Economics and Related Disciplines, London, UK.

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Abstract

We study the decision of when to invest in an indivisible project whose value is perfectly observable but driven by a parameter that is unknown to the decision maker ex ante. This problem is equivalent to an optimal stopping problem for a bivariate Markov process. Using filtering and martingale techniques, we show that the optimal investment region is characterised by a continuous and non-decreasing boundary in the value/belief state space. This generates path-dependency in the optimal investment strategy. We further show that the decision maker always benefits from an uncertain drift relative to an 'average' drift situation. However, a local study of the investment boundary reveals that the value of the option to invest is not globally increasing with respect to the volatility of the value process.

Item Type: Monograph (Discussion Paper)
Official URL: http://sticerd.lse.ac.uk
Additional Information: © 2003 the authors
Divisions: STICERD
Subjects: H Social Sciences > HB Economic Theory
JEL classification: D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D83 - Search; Learning; Information and Knowledge; Communication; Belief
C - Mathematical and Quantitative Methods > C6 - Mathematical Methods and Programming > C61 - Optimization Techniques; Programming Models; Dynamic Analysis
Sets: Collections > Economists Online
Research centres and groups > Suntory and Toyota International Centres for Economics and Related Disciplines (STICERD)
Date Deposited: 11 Jul 2008 14:18
Last Modified: 12 Jul 2020 23:06
URI: http://eprints.lse.ac.uk/id/eprint/19325

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