On Jumps and Arch Effects in Natural Resource Prices. An Application to Stumpage Prices from Pacific Northwest National Forests

Models used for natural resources prices usually preclude the possibility of large changes (jumps) resulting from discrete, unexpected events. To test for the presence of jumps and ARCH effects, we propose to use bounds and bootstrap test techniques, thus solving the unidentified nuisance parameter problem. We apply this approach to stumpage price time series from the Pacific Northwest and find evidence of jumps and ARCH effects. Using real options, we then develop a stopping model to assess the impact of neglecting jumps on the decision to harvest old-growth timber. Our numerical results show the importance of modeling jumps explicitly.