Risk aversion and the dynamics of optimal liquidation strategies in illiquid markets

Alexander Schied and Torsten Schoeneborn

MPRA Paper from University Library of Munich, Germany

Abstract: We consider the infinite-horizon optimal portfolio liquidation problem for a von Neumann-Morgenstern investor in the liquidity model of Almgren (2003). Using a stochastic control approach, we characterize the value function and the optimal strategy as classical solutions of nonlinear parabolic partial differential equations. We furthermore analyze the sensitivities of the value function and the optimal strategy with respect to the various model parameters. In particular, we find that the optimal strategy is aggressive or passive in-the-money, respectively, if and only if the utility function displays increasing or decreasing risk aversion. Surprisingly, only few further monotonicity relations exist with respect to the other parameters. We point out in particular that the speed by which the remaining asset position is sold can be decreasing in the size of the position but increasing in the liquidity price impact.

Keywords: Liquidity; illiquid markets; optimal liquidation strategies; dynamic trading strategies; algorithmic trading; utility maximization (search for similar items in EconPapers)
JEL-codes: G10 G12 G20 G24 G33 (search for similar items in EconPapers)
Date: 2008-02-08
New Economics Papers: this item is included in nep-cse, nep-dge and nep-upt
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (12)

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Related works:
Journal Article: Risk aversion and the dynamics of optimal liquidation strategies in illiquid markets (2009)
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:7105

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