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Mean-Variance Hedging under Additional Market Information

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  • Thierbach, Frank

Abstract

In this paper we analyse the mean-variance hedging approach in an incomplete market under the assumption of additional market information, which is represented by a given, finite set of observed prices of non-attainable contingent claims. Due to no-arbitrage arguments, our set of investment opportunities increases and the set of possible equivalent martingale measures shrinks. Therefore, we obtain a modified mean-variance hedging problem, which takes into account the observed additional market information. Solving this by means of the techniques developed by Gourieroux, Laurent and Pham (1998), we obtain an explicit description of the optimal hedging strategy and an admissible, constrained variance-optimal signed martingale measure, that generates both the approximation price and the observed option prices.

Suggested Citation

  • Thierbach, Frank, 2002. "Mean-Variance Hedging under Additional Market Information," Bonn Econ Discussion Papers 11/2002, University of Bonn, Bonn Graduate School of Economics (BGSE).
    • Handle: RePEc:zbw:bonedp:112002
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    References listed on IDEAS

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    1. Rheinländer, Thorsten & Schweizer, Martin, 1997. "On L2-projections on a space of stochastic integrals," SFB 373 Discussion Papers 1997,25, Humboldt University of Berlin, Interdisciplinary Research Project 373: Quantification and Simulation of Economic Processes.
    2. Bouleau, Nicolas & Lamberton, Damien, 1989. "Residual risks and hedging strategies in Markovian markets," Stochastic Processes and their Applications, Elsevier, vol. 33(1), pages 131-150, October.
    3. Harrison, J. Michael & Kreps, David M., 1979. "Martingales and arbitrage in multiperiod securities markets," Journal of Economic Theory, Elsevier, vol. 20(3), pages 381-408, June.
    4. Harrison, J. Michael & Pliska, Stanley R., 1981. "Martingales and stochastic integrals in the theory of continuous trading," Stochastic Processes and their Applications, Elsevier, vol. 11(3), pages 215-260, August.
    5. Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-654, May-June.
    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    option pricing; mean variance hedging; incomplete markets; varianceoptimal martingale measure;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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