Fundamental theorem of asset pricing with acceptable risk in markets with frictions

Maria Arduca () and Cosimo Munari ()
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Maria Arduca: LUISS University
Cosimo Munari: University of Zurich

Finance and Stochastics, 2023, vol. 27, issue 3, No 6, 862 pages

Abstract: Abstract We study the range of prices at which a rational agent should contemplate transacting a financial contract outside a given market. Trading is subject to nonproportional transaction costs and portfolio constraints, and full replication by way of market instruments is not always possible. Rationality is defined in terms of consistency with market prices and acceptable risk thresholds. We obtain a direct and a dual description of market-consistent prices with acceptable risk. The dual characterisation requires an appropriate extension of the classical fundamental theorem of asset pricing where the role of arbitrage opportunities is played by good deals, i.e., costless investment opportunities with acceptable risk–reward tradeoff. In particular, we highlight the importance of scalable good deals, i.e., investment opportunities that are good deals regardless of their volume.

Keywords: Arbitrage pricing; Good deal pricing; Transaction costs; Portfolio constraints; Risk measures; 91B25; 91G20; 91G30; 91G70 (search for similar items in EconPapers)
JEL-codes: D81 G12 (search for similar items in EconPapers)
Date: 2023
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Citations: View citations in EconPapers (2)

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DOI: 10.1007/s00780-023-00509-x

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