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Optimal hedging and parameter uncertainty

Abstract:

We explore the impact of drift parameter uncertainty in a basis risk model, an incomplete market in which a claim on a nontraded asset is optimally hedged using a correlated traded stock. Using analytic expansions for indifference prices and hedging strategies, we develop an efficient procedure to generate terminal hedging error distributions when the hedger has erroneous estimates of the drift parameters. These show that the effect of parameter uncertainty is occasionally benign, but often v...

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Publisher copy:
10.1093/imaman/dpm022

Authors


Monoyios, M More by this author
Publisher:
Oxford University Press
Journal:
IMA Journal of Management Mathematics
Volume:
18
Issue:
4
Pages:
331-351
Publication date:
2007
DOI:
EISSN:
1471-6798
ISSN:
1471-678X
URN:
uuid:a2c8e8ce-1199-4b56-afef-5ae1af0e6b9b
Source identifiers:
27677
Local pid:
pubs:27677
Language:
English

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