OPTIMAL DEVELOPMENT TIMING OPTION FOR LAND DEVELOPMENT

Abstract

The primary objectives of this dissertation are (1) to test the predictability of the Black and Scholes option-pricing model and the optimal development timing option premiums; (2) to adjust the development timing option premiums for the hedonic characteristics using the hedonic pricing methodology; (3) to investigate the time-varying effects of the quality-adjusted development timing option premium in the presence of exogenous market shocks in financial crisis and other factors in the real estate market and; (4) to investigate the relationship between rate of sales and the quality-adjusted option premiums. Firstly, the mean optimal development timing option premium is estimated at 20.2% (i.e. cross-sectional analysis) and 18.2% (i.e. time-series analysis) using the Black and Scholes option-pricing model. Unlike the conventional academic literature, it is important to note that the actual time to option expiry is observed and used in the model. Secondly, the development timing option premiums are adjusted using the hedonic pricing model and the quality-constant mean option premium is estimated at 4.2%, which is close to the value predicted by Quigg (1993). Thirdly, we find that the quality-adjusted option premium tends to be higher in period of financial crisis and its value decreases at a gradual rate when the previous quarter’s value is high. Lastly, the findings of this study shows that the rate of projects’ sales is negatively correlated with the option premium.