Dynamic credit investment in partially observed markets

Agostino Capponi (), José Figueroa-López () and Andrea Pascucci

Finance and Stochastics, 2015, vol. 19, issue 4, 939 pages

Abstract: We consider the problem of maximizing the expected utility for a power investor who can allocate his wealth in a stock, a defaultable security, and a money market account. The dynamics of these security prices are governed by geometric Brownian motions modulated by a hidden continuous-time finite-state Markov chain. We reduce the partially observed stochastic control problem to a complete observation risk-sensitive control problem via the filtered regime switching probabilities. We separate the latter into predefault and postdefault dynamic optimization subproblems and obtain two coupled Hamilton–Jacobi–Bellman (HJB) partial differential equations. We prove the existence and uniqueness of a globally bounded classical solution to each HJB equation and give the corresponding verification theorem. We provide a numerical analysis showing that the investor increases his holdings in stock as the filter probability of being in high-growth regimes increases, and decreases his credit risk exposure as the filter probability of being in high default risk regimes gets larger. Copyright Springer-Verlag Berlin Heidelberg 2015

Keywords: Partial information; Filtering; Risk-sensitive control; Default risk; Hidden Markov chain; 93E20; 91G10; 49L20; 93E11; G11; C61; C11 (search for similar items in EconPapers)
Date: 2015
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (9)

Downloads: (external link)
http://hdl.handle.net/10.1007/s00780-015-0272-0 (text/html)
Access to full text is restricted to subscribers.

Related works:
Working Paper: Dynamic Credit Investment in Partially Observed Markets (2014)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:spr:finsto:v:19:y:2015:i:4:p:891-939

Ordering information: This journal article can be ordered from
http://www.springer. ... ance/journal/780/PS2

DOI: 10.1007/s00780-015-0272-0

Access Statistics for this article

Finance and Stochastics is currently edited by M. Schweizer

More articles in Finance and Stochastics from Springer
Bibliographic data for series maintained by Sonal Shukla () and Springer Nature Abstracting and Indexing ().