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Stochastically fair price for financial options in incomplete markets

Author

Listed:
  • Rustem Sadykov

    (Nazarbayev University [Kazakhstan])

  • Dongming Wei

    (Nazarbayev University [Kazakhstan])

Abstract

In the framework of tree methods for financial options pricing, we propose to use a new notion of stochastically fair price within the fair price range for financial options in incomplete markets. This subset of fair prices is efficient in a sense that it excludes not only arbitrage, but also stochastic arbitrage based on the concept of stochastic dominance. We define stochastically fair prices and present a methodology to compute them for options by using the stochastic optimisation techniques with stochastic constraints involving doubly stochastic matrices. We use a simple trinomial model for illustration.

Suggested Citation

  • Rustem Sadykov & Dongming Wei, 2024. "Stochastically fair price for financial options in incomplete markets," Working Papers hal-04683822, HAL.
    • Handle: RePEc:hal:wpaper:hal-04683822
    Note: View the original document on HAL open archive server: https://hal.science/hal-04683822
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