Valuing forestlands with stochastic timber and carbon prices

Abstract

We calculate expected bare land values, assuming forestry is the highest and best land use, using a real options methodology with stochastic mean-reverting timber and carbon prices. Land values relect the contribution of both timber as well as carbon stored in three separate pools—the forest, harvested wood products, and emissions avoided by using wood versus carbon-intensive substitute materials. Land values reflect one of three sequestration scenarios that vary the percentages of carbon sequestered in the three pools relative to the carbon sequestered in the forest just prior to the harvest activity. At harvest time, the value of the carbon sequestered in the three pools determines if the forest owner retains income gained from the sale of carbon credits, or must purchase credits to offset emissions associated with the harvest activity. A case study involving a hypothetical western Washington Douglas-fir stand suggests that carbon sequestration may be a significant income contribution for forest owners if the three carbon pools are recognized as credible offsets. However, the income contribution is sensitive to the amount of credit realized for carbon sequestered in each of the pools. The analysis demonstrates the significance of including carbon sequestered in the three separate pools when designing carbon offset policies.