Max-plus decomposition of supermartingales and convex order. Application to American options and portfolio insurance

DOI10.1214/009117907000000222MaRDI QIDQ2482283zbMATH OpenOpenAlexFDO

Authors Asma Meziou, Nicole El Karoui

Publication date 16 April 2008

Published in The Annals of Probability (Search for Journal in Brave)

Full work available at URL https://arxiv.org/abs/0804.2561

zbMATH Keywords

optimal stoppingAmerican optionsconvex orderportfolio insuranceMax-Plus algebrarunning supremum processmartingale optimization with constraintssupermartingale decompositionsLévy processesAzéma-Yor martingales

Mathematics Subject Classification ID

Processes with independent increments; Lévy processes (60G51) Stopping times; optimal stopping problems; gambling theory (60G40) Martingales with continuous parameter (60G44) General theory of stochastic processes (60G07)

Abstract: We are concerned with a new type of supermartingale decomposition in the Max-Plus algebra, which essentially consists in expressing any supermartingale of class $(mathcalD)$ as a conditional expectation of some running supremum process. As an application, we show how the Max-Plus supermartingale decomposition allows, in particular, to solve the American optimal stopping problem without having to compute the option price. Some illustrative examples based on one-dimensional diffusion processes are then provided. Another interesting application concerns the portfolio insurance. Hence, based on the ``Max-Plus martingale, we solve in the paper an optimization problem whose aim is to find the best martingale dominating a given floor process (on every intermediate date), w.r.t. the convex order on terminal values.

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Cited in

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• On a stochastic representation theorem for Meyer-measurable processes
• Expected supremum representation of the value of a singular stochastic control problem
• CONSTRAINED OPTIMIZATION WITH RESPECT TO STOCHASTIC DOMINANCE: APPLICATION TO PORTFOLIO INSURANCE
• Long-term optimal portfolios with floor
• On Azéma-Yor processes, their optimal properties and the Bachelier-drawdown equation
• Optional decomposition of optional supermartingales and applications to filtering and finance
• Pension funds with a minimum guarantee: a stochastic control approach

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