Journal of the Korean Operations Research and Management Science Society (한국경영과학회지)

The Korean Operations Research and Management Science Society (한국경영과학회)
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Valuation of Options in Incomplete Markets

불완전시장 하에서의 옵션가격의 결정

  • Park, Byungwook (This work was supported by the faculty research fund of Konkuk University)
  • Published : 2004.06.01
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Abstract

The purpose of this paper is studying the valuation of option prices in Incomplete markets. A market is said to be incomplete if the given traded assets are insufficient to hedge a contingent claim. This situation occurs, for example, when the underlying stock process follows jump-diffusion processes. Due to the jump part, it is impossible to construct a hedging portfolio with stocks and riskless assets. Contrary to the case of a complete market in which only one equivalent martingale measure exists, there are infinite numbers of equivalent martingale measures in an incomplete market. Our research here is focusing on risk minimizing hedging strategy and its associated minimal martingale measure under the jump-diffusion processes. Based on this risk minimizing hedging strategy, we characterize the dynamics of a risky asset and derive the valuation formula for an option price. The main contribution of this paper is to obtain an analytical formula for a European option price under the jump-diffusion processes using the minimal martingale measure.

Keywords

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