An Experimental Study on Real Option Strategies
Quantitative Finance, 12(11), 1753-1772
41 Pages Posted: 25 Jan 2010 Last revised: 6 Jan 2016
Date Written: September 3, 2011
We conduct a laboratory experiment to study whether people intuitively use real-option strategies in a dynamic investment setting. The participants were asked to play as an oil manager and make production decisions in response to a simulated mean-reverting oil price. Using cluster analysis, participants can be classified into four groups, which we label as "mean-reverting,"Brownian motion real-option," "Brownian motion myopic real-option," and "ambiguous." We find two behavioral biases in the strategies by our participants: ignoring the mean-reverting process, and myopic behavior. Both lead to too frequent switches when compared with the theoretical benchmark. We also find that the last group behaved as if they have learned to incorporate the true underlying process into their decisions, and improved their decisions during the later stage.
Keywords: Real Option, Experimental Economics, Heterogeneity
JEL Classification: C91, D84, G11
Suggested Citation: Suggested Citation