A Real Options Perspective on R&D Portfolio Diversification
2008-01-07
Research Paper
| Related Files |
|---|
View PDF Version
(2008-0032.pdf, 0.3MB) |
|
Redirect to ERIM Report
(ERIM Report.url.txt, 32 bytes) |
|
Redirect to Version of record
(Version of record.url.txt, 32 bytes) |
This paper shows that the presence of conditional staging in R&D (Research & Development) has a critical impact on portfolio risk, and changes diversification arguments when a portfolio is constructed. When R&D projects exhibit option-like characteristics, correlation between projects plays a more complicated role than traditional portfolio diversification would suggest. Real option theory argues that research projects with conditional phases have option-like risk and return properties, and are different from unconditional projects. We show that although the risk of a portfolio always depends on the correlation between projects, a portfolio of conditional R&D projects with real option characteristics has fundamentally different risk than a portfolio of unconditional projects. When conditional R&D projects are negatively correlated, portfolio risk is hardly reduced by diversification. When projects are positively correlated, however, diversification is more effective than these tools predict.
- G32 : Financing Policy; Capital and Ownership Structure
- O32 : Management of Technological Innovation and R&D
- O30 : Technological Change; Research and Development (R&D): General
- G31 : Capital Budgeting; Investment Policy
- project
- option
- portfolio
- value
- diversication
- variance
- correlation
- r &d projects
- figure
- result
- investment
- research
- portfolio risk
- distribution
- simulation
- return
- development
- argument
- selection
- model
