Risk Minimization for a Filtering Micromovement Model of Asset Price

Kiseop Lee and Yong Zeng

Applied Mathematical Finance, 2010, vol. 17, issue 2, 177-199

Abstract: The classical option hedging problems have mostly been studied under continuous-time or equally spaced discrete-time models, which ignore two important components in the actual price: random trading times and market microstructure noise. In this paper, we study optimal hedging strategies for European derivatives based on a filtering micromovement model of asset prices with the two commonly ignored characteristics. We employ the local risk-minimization criterion to develop optimal hedging strategies under full information. Then, we project the hedging strategies on the observed information to obtain hedging strategies under partial information. Furthermore, we develop a related nonlinear filtering technique under the minimal martingale measure for the computation of such hedging strategies.

Keywords: Risk minimization; Minimal martingale measure; Filtering; Counting process; High frequency data (search for similar items in EconPapers)
Date: 2010
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Citations: View citations in EconPapers (2)

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DOI: 10.1080/13504860903259852

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