Locked Up by a Lockup: Valuing Liquidity as a Real Option / Andrew Ang, Nicolas P.B. Bollen.

Format:

Book

Author/Creator:

Ang, Andrew.

Contributor:

National Bureau of Economic Research.

Bollen, Nicolas P.B.

Series:

Working Paper Series (National Bureau of Economic Research) no. w15937.

NBER working paper series no. w15937

Language:

English

Physical Description:

1 online resource: illustrations (black and white);

Other Title:

Locked Up by a Lockup

Place of Publication:

Cambridge, Mass. National Bureau of Economic Research 2010.

Summary:

Hedge funds often impose lockups and notice periods to limit the ability of investors to withdraw capital. We model the investor's decision to withdraw capital as a real option and treat lockups and notice periods as exercise restrictions. Our methodology incorporates time-varying probabilities of hedge fund failure and optimal early exercise. We estimate a two-year lockup with a three-month notice period costs approximately 1% of the initial investment for an investor with CRRA utility and risk aversion of three. The cost of illiquidity can easily exceed 10% if the hedge fund manager can arbitrarily suspend withdrawals.

Notes:

Print version record

April 2010.