Testing the Option Value Theory of Irreversible Investment

Tarek Harchaoui and Pierre Lasserre

International Economic Review, 2001, vol. 42, issue 1, 141-66

Abstract: This article statistically tests the option theory of irreversible investment. Using contingent claims valuation, we derive the value of options to invest in capacity, where the projects are endogenous to the economic circumstances prevailing at the investment date. We then test whether decisions made by Canadian copper mines are compatible with the trigger price implied by the theory. Our model explains investment size and timing satisfactorily from a statistical and an economic point of view; simulations with a mean-reverting process suggest that the results do not depend crucially on the assumption that price follows a geometric Brownian motion.

Date: 2001
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Related works:
Working Paper: Testing the Option Value Theory of Irreversible Investment (1999)
Working Paper: Testing the Option Value Theory of Irreversible Investment (1999)
Working Paper: Testing the Option Value Theory of Irreversible Investment (1995)
Working Paper: Testing the Option Vakue Theory of Irreversible Investment (1995)
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