Optimal stochastic control, stochastic target problems, and backward SDE. (Q424646): Difference between revisions

The book has 13 chapters with 43 references and Chapter 13 is written by a different author. The book is exactly what the author intended, a texbook, developed from lecture notes on stochastic control problems with a special emphasis on the application in financial mathematics and with the last chapter 13 by Agnes Tourin about designing finite difference methods for Hamilton-Jacobi-Bellman equations of parabolic type arising in quantitative finance. Probabilistic numerical methods [\textit{A. Fahim, N Touzi} and \textit{X. Warin}, ``A probabilistic numerical method for fully nonlinear parabolic PDEs'', Ann. Appl. Probab. 21, No. 4, 1322--1364 (2011; Zbl 1230.65009)] for nonlinear Partial Differential Equations (PDEs) with a complete proof of convergence based on the Barles-Souganidis monotone scheme method [\textit{G. Barles} and \textit{P. E. Souganidis}, ``Convergence of approximation schemes for fully nonlinear second order equations'', Asymptotic Anal. 4, No. 3, 271--283 (1991; Zbl 0729.65077)] are presented in Chapter 12. The chapters 8-11 focus both on the more recent literature on stochastic control, namely stochastic target problems (STPs) motivated by the superhedging problem in financial mathematics (see e.g., [\textit{H. M. Soner} and \textit{N. Touzi}, ``Dynamic programming for stochastic target problems and geometric flows'', J. Eur. Math. Soc. (JEMS) 4, No. 3, 201--236 (2002; Zbl 1003.49003)]), and on a particular setting where the proofs are simplified while highlighting the main ideas. The use of viscosity solutions is crucial for the treatment of STPs. Introduced geometric dynamic programming principle allows to obtain a dynamic programming equation in the sense of viscosity solutions. STPs with controlled probability of success is also presented in the second part of Chapter 8 together with using the methodology for showing how one can solve explicitly the problem of quantile hedging which was previously solved by \textit{H. Föllmer} and \textit{P. Leukert} [``Quantile hedging'', Finance Stoch. 3, No. 3, 251--273 (1999; Zbl 0977.91019)] by duality methods in the standard linear case in financial mathematics. Motivated by examples from financial mathematics related to market illiquidity, STPs consisting in involving the quadratic variation of the control process in the controlled state dynamics are also considered in Chapter 9 and called second order stochastic target problems. Backward SDEs (see, e.g., [\textit{E. Pardoux} and \textit{S. Peng}, ``Adapted solution of a backward stochastic differential equation'', Syst. Control Lett. 14, No. 1, 55--61 (1990; Zbl 0692.93064)]) and quadratic Backward SDEs related respectively to STPs and second order STPs are dedicated to Chapters 10-11. Chapters 2-5 review the main tools from stochasic analysis (see. e.g., [\textit{W. H. Fleming} and \textit{H. M. Soner}, Controlled Markov Processes and viscosity solutions. Applications of Mathematics. 25. New York: Springer-Verlag. (1993; Zbl 0773.60070)]) and financial mathematics (see, e.g., [\textit{U. Cetin} et al., ``Pricing option in an extended Black-Scholes economy with illiquidity: theory and empirical evidence'', Rev. Financ. Stud. 19, 493--529 (2006)]) : Conditional expectation and linear parabolic PDEs, stochastic control and dynamic programming, optimal stopping and dynamic programming, solving control problems by verification. Introduction to viscosity solutions [\textit{M. G. Crandall, H. Ishii} and \textit{P. Lions}, ``User's guide to viscosity solutions of second order partial differential equations'', Bull. Am. Math. Soc., New Ser. 27, No. 1, 1--67 (1992; Zbl 0755.35015)] and the dynamic programming equation in the viscosity sense are the subject of Chapters 6-7. The book is restricted to the control of diffusion processes and presents its review in Chapter 1.