Decision Horizon and Idiosyncratic Risk

We consider a decision maker's problem in a real option framework with several projects that can only be sequentially undertaken within a "decision horizon" - the time until projects are expired - and characterize the optimal sequence of exercises. A limited decision horizon leads to early execution of projects with high idiosyncratic volatility. Consequently, the firm's idiosyncratic volatility is negatively related to the decision horizon. We provide empirical evidence for this relationship, which is stronger for firms with higher ownership concentration and more growth options. Our paper highlights the importance of the time constraint in determining the firm value and return dynamics