Valuing switching options in international grain marketing

Abstract

An important strategy for commodity trading firms is geographical diversification through acquisitions and greenfield development, often justified with the quest for multiple origins. This strategy can be interpreted as a "switching option" which tend to be undervalued using traditional valuation techniques. This paper develops a stochastic binomial real options model to value networks of export elevators. It is applied to soybean trading for shipments from ports in the United States, Brazil, and Ukraine. The paper estimates the value of the option of being able to switch origins in export trade. This option value is substantial and is determined partly by margin distributions and correlations among these.