Well-posedness and penalization schemes for generalized BSDEs and reflected generalized BSDEs

Libo Li, Ruyi Liu and Marek Rutkowski

Papers from arXiv.org

Abstract: The paper is directly motivated by the pricing of vulnerable European and American options in a general hazard process setup and a related study of the corresponding pre-default backward stochastic differential equations (BSDE) and pre-default reflected backward stochastic differential equations (RBSDE). We work with a generic filtration $\FF$ for which the martingale representation property is assumed to hold with respect to a square-integrable martingale $M$ and the goal of this work is of twofold. First, we aim to establish the well-posedness results and comparison theorems for a generalized BSDE and a reflected generalized BSDE with a continuous and nondecreasing driver $A$. Second, we study extended penalization schemes for a generalized BSDE and a reflected generalized BSDE in which we penalize against the driver in order to obtain in the limit either a particular optimal stopping problem or a Dynkin game in which the set of admissible exercise time is constrained to the right support of the measure generated by $A$.

Date: 2022-12
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