INVESTMENT ANALYSIS IN AGRICULTURE
Tauer, Loren W.
Recent developments in investment analysis and their relevancy in agricultural investment assessment are discussed. The Net Present Value model can be modified to incorporate the value of strategic management of an investment into the initial evaluation of that investment. Since these decisions can be modeled as call and put options, the mathematics of financial options has been applied to these investment decisions, and referred to as real options analysis. It is shown how contingent claims analysis can be used to value these real options. Contingent claims analysis uses a risk-free discount rate, since risk is incorporated into option valuation using computed risk-neutral probabilities obtained from a replicating portfolio correlated to the discounted income stream. Many net returns in agricultural activities are correlated with prices of underlying agricultural commodities, suggesting the potential use of contingent claims analysis.
Charles H. Dyson School of Applied Economics and Management, Cornell University