The Optimal Value of Waiting to Invest

We extend McDonald and Siegel’s (1986) model to the case where the expected rate of return of a project cannot be observed but is known to be either low or high. Waiting and observing the realizations of the value of the project provides information to the investor who can update her beliefs about the true value of the expected return. Moreover, the investor can purchase some additional information which allows her to control the learning speed of her beliefs. Investor’s beliefs follow a martingale and the optimal investment trigger depends on the degree of optimism. The optimal amount of information purchased is found to be increasing in payoffs and the variance of beliefs but decreasing in the project volatility. Overall, the opportunity to purchase information enhances the option value of waiting to invest, thus delays investment. JEL classification: D81, D83, D92.