How fast does it diverge? Discrete hedging error with transaction costs (Q2046239)

The paper presents results concerning hedging European option in Black-Scholes model. It is known, that theoretically any derivative instrument in Black-Scholes model can be perfectly replicated (hedged) This means that one can create an investment strategy such that its value is always equal to the current price of the instrument). The existence of such replicating strategy depends on several assumptions. Among others, it is assumed that the portfolio can be rebalanced at any moment (that is, the replicating strategy is a continuous process) and the market is frictionless - there are no transaction costs. The article considers the situation when those assumptions are broken. In the article the authors consider a model in which 1) the value of an underlying asset is driven by a geometric Brownian motion, 2) one can rebalance a portfolio only at some discrete moments (i.e. the hedging strategy is only an approximation of the actual replicating strategy), 3) there are transaction costs proportional to \(n^\alpha\), where \(\alpha\in[0,\frac{1}{2}]\) and \(n\) is number of potential trading moments. The error of hedging strategy is decomposed into two elements: error connected with discrete rebalancing and error of trading costs. The authors prove that the error is of order \(\sqrt{n}\). They also provide an approximation of the lower and upper bounds of the error. The results and the work are interesting. However the paper contains many edition errors, which make it hard to understand without using references to previous works. It contains references to functions or formulas defined elsewhere. For example, there is no definitions of functions \(\alpha(S_0, \sigma, K)\) and \(\beta(S_0, \sigma, K)\) -- very important in the approximation formula. The article is comprehensible only with a companion of other papers given as references.