Maxentropic construction of risk neutral measures: discrete market models

Henryk Gzyl ()

Applied Mathematical Finance, 2000, vol. 7, issue 4, 229-239

Abstract: The maximum entropy principle provides a variational method to select a measure yielding pre-assigned mean values to a random variable. It can also be invoked to construct measures that render a stochastic process a martingale, thus providing a systematic way of constructing risk-neutral measures and thus closing a market. We carry out this programme for discrete market models. On the one hand these are amenable to numerical implementation and on the other, they provide a stepping stone for more general market models in continuous time.

Date: 2000
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DOI: 10.1080/13504860110061699

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