This article analyzes present value costs under stochastic interest rates and investigates the effect of interest rate uncertainty on the replacement investment decision that a firm must make when a piece of equipment becomes obsolete and needs replacement with either short- or long-lived...

The American early exercise feature of the Real Option to invest in a new project is important in capital budgeting and project valuation. Closed form solutions for American, and therefore Real, Options are known for two special cases; an infinite horizon generates the Merton (Bell Journal of...

This article returns to the choice of method for calculating option hedge ratios discussed by Pelsser and Vorst (1994). Where they demonstrated that numerical differentiation of a binomial model compared poorly to their design of an extended tree, this study shows that the Binomial...

This article discusses convergence problems when calculating Vega (option sensitivity to volatility) that arise from discretization errors embedded in the lattice approach. Four alternative improvements to the traditional binomial method are discussed and investigated for performance. We also...

Empirical pricing kernels for the UK equity market are derived as the ratio between risk-neutral densities, inferred from FTSE 100 index options, and historical real-world densities, estimated from time series of the index. The kernels thus obtained are almost compatible with a risk averse...

We model Continuous Workout Mortgages (CWMs) in an economic environment with refinancings and prepayments by employing a market-observable variable such as the house price index. Our main results include: (a) explicit modelling of repayment and interest-only CWMs; (b) closed form formulae for...

Most decision making research in real options focuses on revenue uncertainty assuming discount rates remain constant. However, for many decisions revenue or cost streams are relatively static and investment is driven by interest rate uncertainty, for example the decision to invest in durable...

Snakes and ladders is an ancient Indian game of chance that offers amusement as well as a metaphor for life's many ups and downs. Games offer useful and fun ways of conveying ideas as well as solution techniques and this game has considerable mathematical tractability. This note shows how snakes...

Continuous Workout Mortgage (CWM) balance and payments are indexed using market-observable house price index in an economic environment with prepayments. Our main results include: (a) explicit modelling of repayment and interest-only CWMs; (b) closed form formulas for mortgage payment and...