Abstract
Pricing financial or real options with arbitrary payoffs in regimeâswitching models is an important problem in finance. Mathematically, it is to solve, under certain standard assumptions, a general form of optimal stopping problems in regimeâswitching models. In this article, we reduce an optimal stopping problem with an arbitrary value function in a twoâregime environment to a pair of optimal stopping problems without regime switching. We then propose a method for finding optimal stopping rules using the techniques available for nonswitching problems. In contrast to other methods, our systematic solution procedure is more direct as we first obtain the explicit form of the value functions. In the end, we discuss an option pricing problem, which may not be dealt with by the conventional methods, demonstrating the simplicity of our approach.