Date Added: Jun 2011
The authors solve a firm's investment problem when there is uncertainty about the growth rate of the project value and about the investment cost. This uncertainty makes the firm ambiguity averse. They use a robust method to take this into account. In this paper, they provide explicit solutions when the value of the project as well as the investment cost is stochastic. Ambiguity aversion decreases the investment threshold and, in contrast to standard models, volatility can decrease the investment threshold. In fact, volatility increases the impact of ambiguity aversion. They also show that the effect of volatility is highly dependent on the correlation between the value of the project and the investment cost.