The Planting Real Option in Cash Rent Valuation

After entering into farmland rental contracts in the fall, a tenant farmer has the planting flexibility to choose between corn and soybeans. Failure to account for this switching option will bias estimates of what farmers should pay to rent land. Applying contingent claims analysis methods, this study explicitly derives the real option value function. Comparative statics with respect to the volatilities of underlying state variables and their correlations are derived and discussed. Dynamic hedging deltas in this real option context are also developed. Monte Carlo simulation results show that the average cash rent valuation for the real option approach is 11% higher than that for the conventional net present value (NPV) method. The simulated dynamic hedging deltas are shown to differ from the ones implied by the NPV method.


Issue Date:
2008
Publication Type:
Working or Discussion Paper
PURL Identifier:
http://purl.umn.edu/6307
Total Pages:
49
Series Statement:
CARD Working Paper
08-WP 463




 Record created 2017-04-01, last modified 2017-08-23

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