APPLICATION OF OPTION PRICING MODEL FOR REAL OPTION IN SINGAPORE

Abstract

Land purchasers do not simply own the land that they bought, they are also the owners of various real options, such as the options to defer, default during staged construction, alter, abandon, change of use and redevelop. In Singapore, due to certain policy changes and restrictions imposed through the Conditions of Tender in the government land sales programme, the values of some of these real options are affected as a result. This study aims to introduce the use of the Binomial Option Pricing Model to value government tendered land so as to overcome the limitations of the traditional Net Present Value (NPV) method. An analysis done on the effect of policy changes on real option values serves as a useful guide for purchasers of government land as well as policy decision makers. The implementation issues in the practical application of the option pricing model are also investigated. While a perfectly acceptable set of data inputs is not possible, the best possible approximation will give a good estimation of the true real option value where inferences can be drawn. To accurately implement the model in Singapore will require a more reliable and commonly accessible database, as well as a conscious understanding of the limitations of the option pricing model used.