Please use this identifier to cite or link to this item: http://buratest.brunel.ac.uk/handle/2438/3777
Title: Option Pricing with Transaction Costs Using a Markov Chain Approximation
Authors: Monoyios, M
Issue Date: 2001
Publisher: Brunel University
Citation: Economics and Finance Working papers, Brunel University, 01-03
Abstract: An e cient algorithm is developed to price European options in the pres- ence of proportional transaction costs, using the optimal portfolio frame- work of Davis (1997). A fair option price is determined by requiring that an in nitesimal diversion of funds into the purchase or sale of options has a neutral e ect on achievable utility. This results in a general option pricing formula, in which option prices are computed from the solution of the investor's basic portfolio selection problem, without the need to solve a more complex optimisation problem involving the insertion of the op- tion payo into the terminal value function. Option prices are computed numerically using a Markov chain approximation to the continuous time singular stochastic optimal control problem, for the case of exponential utility. Comparisons with approximately replicating strategies are made. The method results in a uniquely speci ed option price for every initial holding of stock, and the price lie...
Description: http://www.brunel.ac.uk/about/acad/sssl/ssslresearch/efwps##2001
URI: http://bura.brunel.ac.uk/handle/2438/3777
Appears in Collections:Dept of Economics and Finance Research Papers

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