Competitive Real Options under Private Information
53 Pages Posted: 20 Sep 2016 Last revised: 20 Nov 2017
Date Written: November 17, 2017
Abstract
We study a research and development race by extending the standard investment under uncertainty framework. Firms observe the stochastic evolution of their own potential payoffs from entry into a market, while conjecturing about the unobserved state of their opponents. They face a trade-off between immediate entry or delay, under the threat of preemption by a rival. We analytically characterize both stationary Markov perfect equilibria and the transitions using a coupled system of differential equations. For standard initial conditions, the transitions display long-lived dynamics and an intensity of competition that first builds and then subsides slowly towards a steady state. We also discuss comparative statics regarding development speed, uncertainty, and asymmetries between players.
Keywords: real options, uncertainty, investment, learning, competition, private information
JEL Classification: C73, D92, G31
Suggested Citation: Suggested Citation