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There are few methods like Copeland-Antikarov, Herath-Park, Cobb-Charnes etc. to compute project volatility, however these methods compute upward biased volatility. What is the best method I could use to compute project volatility for real option valuation?

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There are two main approaches:

  1. Comparables (depends on having an existing sample of similar project outcomes, which can be difficult to obtai [similar to historical volatility for stocks])
  2. Simulation (when comparables, or rather enough of them, aren't available)

Here's a link to a paper that provides a technique for estimating volatility for real options:

http://new.vmi.edu/media/ecbu/cobb/EE4902.pdf

Generally comparables is the preferable approach in real options, provided that you have a large enough historical sample. In most cases, however simulation is used as 'true' comparables are notoriously difficult to find en masse.

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  • $\begingroup$ heres's another simulation approach(not only for correlated inputs, but with more math): etd.auburn.edu/etd/bitstream/handle/10415/147/… $\endgroup$ – glyphard May 6 '11 at 1:36
  • $\begingroup$ Do you happen to have a title/link of the first paper? The link is dead. $\endgroup$ – jeff m Dec 21 '12 at 0:30
  • $\begingroup$ I just clicked the link and the paper came up fine... "ESTIMATING PROJECT VOLATILITY AND DEVELOPING DECISION SUPPORT SYSTEM IN REAL OPTIONS ANALYSIS" $\endgroup$ – glyphard Dec 21 '12 at 5:07
  • $\begingroup$ Weird - still doesn't work for me. In any case, thanks for the info. $\endgroup$ – jeff m Dec 21 '12 at 14:00

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