Khedira or Isco will replace Modric - Ancelotti
Modric has been ruled out for three months after suffering a torn thigh muscle in Croatia's Euro 2016 qualifier with Italy, but Ancelotti has ruled out bringing in a new midfielder in January.
Real visit Eibar in La Liga on Saturday, and the Italian is torn between Khedira and Isco having narrowed his options down to two.
"I have not decided," he said. "I have two options.
"Khedira is one choice and the other is Isco. I'll see in training if Khedira is in good shape, if not, I'll pick Isco.
"The injury [to Modric] is very important. We do not know when we can return.
"He is now in a recovery process. Modric is a very important player but we have a very competitive squad."
Khedira may finally get his chance to shine having been heavily linked with a move away from the club during the close-season, and Ancelotti says the German is now happy in the Spanish capital.
"He's confident and wants to stay here," he added. "He does not want to leave Real Madrid and has told me personally.
"We will try to renew his contract, but I think it is not the time to talk about this issue.
"Over time this situation will be arranged. His physical condition is now quite good. He played against Spain [with Germany] and did well."