The value of embedded real options: Evidence from consumer automobile lease contracts—A note |
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| Institution: | 1. SAFE Center – Department of Economics, University of Verona, Verona, Italy;2. University of Verona, Verona, Italy;1. University of Technology, Sydney, The Finance Discipline Group, UTS Business School, PO Box 123, Broadway, NSW, 2007, Australia;2. Auckland University of Technology, Department of Finance, Private Bag 92006, 1142 Auckland, New Zealand;3. Università degli Studi di Padova, Dipartimento di Matematica, Via Trieste 63, Padova, Italy;4. Devinci Finance Lab, Pôle Universitaire Léonard de Vinci, 92916 Paris La Défense Cedex, France;5. Quanta Finanza srl, Via Cappuccina 40, Mestre (Venezia), Italy |
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| Abstract: | Giaccotto et al. 2007. Journal of Finance 62, 411–445] provide a simple model for pricing the cancellation and the purchase options typically embedded in automobile lease contracts, assuming constant interest rates. They show that the cancellation option is worthless because of a penalty applied if the lease is terminated before maturity. We extend their results by developing a model with stochastic interest rates, and show that the cancellation option has a significant value also in presence of the penalty. We provide sufficient conditions to make the cancellation option worthless in our more general framework. |
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