Growth Optimal Investment and Pricing of Derivatives
Statistical Mechanics
2009-10-31 v1 Pricing of Securities
Abstract
We introduce a criterion how to price derivatives in incomplete markets, based on the theory of growth optimal strategy in repeated multiplicative games. We present reasons why these growth-optimal strategies should be particularly relevant to the problem of pricing derivatives. We compare our result with other alternative pricing procedures in the literature, and discuss the limits of validity of the lognormal approximation. We also generalize the pricing method to a market with correlated stocks. The expected estimation error of the optimal investment fraction is derived in a closed form, and its validity is checked with a small-scale empirical test.
Keywords
Cite
@article{arxiv.cond-mat/9910212,
title = {Growth Optimal Investment and Pricing of Derivatives},
author = {Erik Aurell and Roberto Baviera and Ola Hammarlid and Maurizio Serva and Angelo Vulpiani},
journal= {arXiv preprint arXiv:cond-mat/9910212},
year = {2009}
}
Comments
21 pages, 5 figures