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      Expected gain-loss pricing and hedging of contingent claims in incomplete markets by linear programming

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      Author
      Pınar, M. Ç.
      Salih, A.
      Camcı, A.
      Date
      2010
      Source Title
      European Journal of Operational Research
      Print ISSN
      0377-2217
      Electronic ISSN
      1872-6860
      Publisher
      Elsevier
      Volume
      201
      Issue
      3
      Pages
      770 - 785
      Language
      English
      Type
      Article
      Item Usage Stats
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      481
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      Abstract
      We analyze the problem of pricing and hedging contingent claims in the multi-period, discrete time, discrete state case using the concept of a "λ gain-loss ratio opportunity". Pricing results somewhat different from, but reminiscent of, the arbitrage pricing theorems of mathematical finance are obtained. Our analysis provides tighter price bounds on the contingent claim in an incomplete market, which may converge to a unique price for a specific value of a gain-loss preference parameter imposed by the market while the hedging policies may be different for different sides of the same trade. The results are obtained in the simpler framework of stochastic linear programming in a multi-period setting, and have the appealing feature of being very simple to derive and to articulate even for the non-specialist. They also extend to markets with transaction costs.
      Keywords
      Contingent claim
      Hedging
      Martingales
      Pricing
      Stochastic linear programming
      Transaction costs
      Contingent claim
      Hedging
      Martingales
      Pricing
      Stochastic linear programming
      Transaction costs
      Commerce
      Dynamic programming
      Linear programming
      Linearization
      Optimization
      Costs
      Permalink
      http://hdl.handle.net/11693/22388
      Published Version (Please cite this version)
      http://dx.doi.org/10.1016/j.ejor.2009.02.031
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      • Department of Industrial Engineering 677
      • Department of Management 551
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