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- Title
The Discount Rate for Investment Analysis Applying Expected Utility.
- Authors
Baucells, Manel; Bodily, Samuel E.
- Abstract
In decision analysis, expected utility of discounted cash flows is the traditional approach to incorporate risk aversion into the evaluation of a project. The choice of discount rate as well as the convergence with the beta-adjusted approach from finance have always been in question. To address this gap, we adopt a risk-sharing setup in which investors have both treasuries and the stock market as alternatives to the project. For a full utility analysis of all the investor's capital, we provide a unique discount rate that allows setting the horizon at the termination of the project. For a traditional analyst who conducts expected utility of discounted cash flows and ignores the capital not allocated to the project, we recommend an adjusted discount rate that compensates for double-counting the systematic risk.
- Subjects
INVESTMENT analysis; DISCOUNT prices; EXPECTED utility; DISCOUNTED cash flow; INVESTORS
- Publication
Decision Analysis, 2024, Vol 21, Issue 2, p125
- ISSN
1545-8490
- Publication type
Article
- DOI
10.1287/deca.2022.0059