OBLIG 1

MAT2700

Andres S. Susrud

1a.) A trading strategy H is a strategy containing of portfolio H = H0 + H1+H2 +...+HN, where H0 = B0 and H1+H2 +...+Hn, is the number of risky assets, from the time t=0 to t=1. 1b.) The value process V is the value of the Portfolio H at time t=0,1. The value Vt H0Bt + Nn=1 + HnSn(t), t = 0,1 The gain process G is the change in the value of the portfolio between t=0, and t=1, for Both riskneutral and risky assets. G H0 r + Nn=1 HnSn(t) The discounted value process is the value V in terms of B1. V*0 = V0, V*t = Vt / Bt , t= 0,1 The discounted gain/loss process is the gain in terms of B1. G*0 = 0, since Sn(t) = 0. G*1 = Nn=1 HnS*n (1). ( value process for Market 3) 1c.) 1d.) An arbitrage opportunity is when for any portfolio H, V0 = 0 and V1 0 and E(V1) > 0. P{V1>0}>0, G*1 0 and E( G*1 ) >0 The law of one price exists if and only if there are two different trading strategies H^, H', such that V^1() = V'1() for all and V^0() = V'0(). This is in words that the law of one price holds only if the Value at time 0 for each of the portfolios is the same, and the value at time 1 is the same. If not there exist an arbitrage opportunty and the law of one price does not hold. Risk neutral probability measure exists if and only if there exist no arbitrage opportunities. The RNPM is a linear pricing meassure which gives strictly positive mass to every . A probability meassure Q on is a RNPM if q There exists no arbitrage opportunity if there is one unique solution to the risk neutral probability measure.

2a.)

2c.)