Using contingent-claims analysis to value opportunities lost due to moral hazard risk

John D. Finnerty

Journal of Risk

Abstract: ABSTRACT Long-term contracts may contain valuable embedded options. I develop an alternative approach to traditional discounted cash flow (DCF) analysis for valuing the profits that are lost when a long-term contract is breached, resulting in the loss of potentially valuable options. One recent example concerns the much publicized supervisory goodwill contracts, some of which were scheduled to expire more than 30 years from the time the US government breached them. I illustrate the contingent-claims approach using this example. I develop a contingent-claims damages model and use it to measure the lostpro fits damages that two thrifts – California Federal Bank and Glendale Federal Bank – suffered when the US government extinguished supervisory goodwill and prematurely terminated their long-dated goodwill options. The same analytical approach can be adapted to value other opportunities lost due to moral hazard risk meeting.

References: Add references at CitEc
Citations:

Downloads: (external link)
https://www.risk.net/journal-of-risk/2161009/using ... to-moral-hazard-risk (text/html)

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:rsk:journ4:2161009

Access Statistics for this article

More articles in Journal of Risk from Journal of Risk
Bibliographic data for series maintained by Thomas Paine ().