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- Title
Locked Up by a Lockup: Valuing Liquidity as a Real Option.
- Authors
Ang, Andrew; Bollen, Nicolas P. B.
- Abstract
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 constant relative risk aversion utility and risk aversion of three. The cost of illiquidity can easily exceed 10% if the hedge fund manager can arbitrarily suspend withdrawals.
- Subjects
LIQUIDITY (Economics); INVESTORS; HEDGE funds; HEDGING (Finance); CORPORATE finance
- Publication
Financial Management (Wiley-Blackwell), 2010, Vol 39, Issue 3, p1069
- ISSN
0046-3892
- Publication type
Article
- DOI
10.1111/j.1755-053X.2010.01104.x