Corporate Liquidity Option Pricing

To date, the main literature named "liquidity value" is actually on the value of an asset's liquidity or market liquidity, while those studies on corporate's liquidity foucs on the optimal liquidity ratio. The pricing of corporate liquidity is a new topic in the area of corporate finance. With the discussion of the essence of liquidity first, this paper shows that corporate liquidity is to provide flexibility which include investment flexibility and insurance flexibility. Then, according to the analogy between flexibility and option, it connects liquidity and option and divides liquidity option into investment-like option and insurance-like option. Thus, a new clue and and method is presented for the studies on liquidity.Based on above and three basic assumptions of competition, dynamics and lag, this paper derives a general liquidity option pricing fomula, i.e., the option value of liquidity holding corresponds to the vlue difference between an American option and European option. In order to make the model more realistic, comprehensive and applicable, we choose the exchange option model as the basic model and use probit model to discuss probability of investment opportunity and probability of financial distress respectively, and then a comprehensive exchange-option-based liquidity option pricing model is established. This model not only takes into consideration both the benefits and costs of liquidty holding, but also applies to both liqudiity's investment-like option and insurance-like option. Finally, the simulated and empirical tests are fulfilled with this model respectively.According to the results of the study, the option value of corporate liquidity regarded as a kind of special commodity has significant influence on corporate's valuation and is very important to investors and management. Besides, there appears much difference in liquidity value among the listed companies in China because of the differences in investment opportunities, investment costs and financial distress and so on. In addition, the empirical results shows that the liquidity value of our agricultural company is highest in China, and the liquidity value of companies in less developed area is more than that in developed area. It also shows that those high-tech companies and large scale companies hold relatively more liquidity and should pay attention to the management of liquidity.