Using real option theory to value abandonment options on northern hardwood timberland investments

Timberland investments in northern hardwood forests are generally at lower per acre values as a result of slower growth rates and less frequent harvest activity. This creates an opportunity for competing land use values to exceed timberland values, and presents a portfolio manager the opportunity to increase their return by capitalizing on arbitrage. The goal of this thesis is to attempt to determine the value of this optionality by using real options analysis and Monte Carlo simulation. Combining historical data on timber prices and land values in the state of Wisconsin with a simulation technique will allow for a robust valuation of this real option as well as the illustration of the values sensitivity to key variables. A successful outcome will result in additional support for the use of real options in practice, particularly in the timberland investment industry.