Martingale Schrödinger bridges and optimal semistatic portfolios

DOI10.1007/S00780-022-00490-XzbMATH Open1503.91131arXiv2204.12250OpenAlexW4309927466MaRDI QIDQ2111249FDOQ2111249

Johannes Wiesel, Marcel Nutz, Long Zhao

Publication date: 28 December 2022

Published in: Finance and Stochastics (Search for Journal in Brave)

Abstract: In a two-period financial market where a stock is traded dynamically and European options at maturity are traded statically, we study the so-called martingale Schr"odinger bridge Q*; that is, the minimal-entropy martingale measure among all models calibrated to option prices. This minimization is shown to be in duality with an exponential utility maximization over semistatic portfolios. Under a technical condition on the physical measure P, we show that an optimal portfolio exists and provides an explicit solution for Q*. This result overcomes the remarkable issue of non-closedness of semistatic strategies discovered by Acciaio, Larsson and Schachermayer. Specifically, we exhibit a dense subset of calibrated martingale measures with particular properties to show that the portfolio in question has a well-defined and integrable option position.

Full work available at URL: https://arxiv.org/abs/2204.12250

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zbMATH Keywords

semistatic tradingmartingale Schrödinger bridge

Mathematics Subject Classification ID

Derivative securities (option pricing, hedging, etc.) (91G20) Martingales with discrete parameter (60G42) Portfolio theory (91G10) Applications of stochastic analysis (to PDEs, etc.) (60H30)

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Cited In (2)

• Limits of semistatic trading strategies
• Dispersion-constrained martingale Schrödinger problems and the exact joint S\&P 500/VIX smile calibration puzzle

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