Real options in the laboratory: An experimental study of sequential investment decisions

Ryan O. Murphy, Sandra Andraszewicz and Simon D. Knaus

Journal of Behavioral and Experimental Finance, 2016, vol. 12, issue C, 23-39

Abstract: Many real-life risky decisions in finance and management are dynamic and decision policies can be adapted as uncertainty is reduced by the arrival of new information. In this type of situation, called a real options problem, a decision maker must choose how much of his finite resources to invest in a dynamic risky environment. In two laboratory experiments, we test a well-defined decision problem with the central characteristics of a real options framework and do so in such a way that it is amendable to formal modeling. We find that people choose differently than the expected value maximizing policy, consistent with risk aversion and non-linear probability weighting. We conclude that although real options analysis is useful as a normative valuation method, its recommendations are sometimes contrary to people’s innate tendencies when making risky choices and this counterintuitiveness should be considered when implementing real options analysis in training and practice.

Keywords: Real options; Sequential choice; Multistage risky decision making; Dynamic decision making; Prospect theory (search for similar items in EconPapers)
Date: 2016
References: Add references at CitEc
Citations: View citations in EconPapers (5)

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S2214635016300387

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:eee:beexfi:v:12:y:2016:i:c:p:23-39

DOI: 10.1016/j.jbef.2016.08.002

Access Statistics for this article

Journal of Behavioral and Experimental Finance is currently edited by Michael Dowling and Jürgen Huber

More articles in Journal of Behavioral and Experimental Finance from Elsevier
Bibliographic data for series maintained by Catherine Liu ().