A class of portfolio selection with a four-factor futures price model

Wei Yan () and Shurong Li

Annals of Operations Research, 2008, vol. 164, issue 1, 139-165

Abstract: Considering the stochastic exchange rate, a four-factor futures model with the underling asset, convenience yield, instantaneous risk free interest rate and exchange rate, is established. These processes follow jump-diffusion processes (Weiner process and Poisson process). The corresponding partial differential equation (PDE) of the futures price is derived. The general solution of the PDE with parameters is drawn. The weight least squares approach is applied to obtain the parameters of above PDE. Variance is substituted by semi-variance in Markowitzs portfolio selection model. Therefore, a class of multi-period semi-variance model is formulated originally. Then, a continuous-time mean-variance portfolio model is also considered. The corresponding stochastic Hamilton-Jacobi-Bellman (HJB) equation of the problem with nonlinear constraints is derived. A numerical algorithm is proposed for finding the optimal solution in this paper. Finally, in order to demonstrate the effectiveness of the theoretical models and numerical methods, the fuel futures in Shanghai exchange market and the Brent crude oil futures in London exchange market are selected to be examples. Copyright Springer Science+Business Media, LLC 2008

Keywords: Four-factor model; Multi-period semi-variance portfolio; Exchange rate; Futures; Numerical algorithm (search for similar items in EconPapers)
Date: 2008
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DOI: 10.1007/s10479-008-0398-y

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