Derivative pricing based on local utility maximization

Jan Kallsen ()
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Jan Kallsen: Institut für Mathematische Stochastik, Universität Freiburg, Eckerstraße 1, 79104 Freiburg i. Br., Germany Manuscript

Finance and Stochastics, 2002, vol. 6, issue 1, 115-140

Abstract: This paper discusses a new approach to contingent claim valuation in general incomplete market models. We determine the neutral derivative price which occurs if investors maximize their local utility and if derivative demand and supply are balanced. We also introduce the sensitivity process of a contingent claim. This process quantifies the reliability of the neutral derivative price and it can be used to construct price bounds. Moreover, it allows to calibrate market models in order to be consistent with initially observed derivative quotations.

Keywords: Option pricing; Incomplete markets; Local utility; Neutral derivative price; Sensitivity process; Local sensitivity (search for similar items in EconPapers)
JEL-codes: D52 D58 G13 (search for similar items in EconPapers)
Date: 2002-01-18
Note: received: October 2000; final version received: February 2001
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Citations: View citations in EconPapers (15)

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