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Utility Indifference Pricing: A Time Consistent Approach

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  • Traian A. Pirvu
  • Huayue Zhang

Abstract

This article considers the optimal portfolio selection problem in a dynamic multi-period stochastic framework with regime switching. The risk preferences are of exponential (CARA) type with an absolute coefficient of risk aversion that changes with the regime. The market model is incomplete and there are two risky assets: tradable and non-tradable. In this context, the optimal investment strategies are time inconsistent. Consequently, the subgame perfect equilibrium strategies are considered. The utility indifference ask price of a contingent claim written on the risky assets is computed through an indifference valuation algorithm. By running numerical experiments, we examine how this price varies in response to changes in model parameters.

Suggested Citation

  • Traian A. Pirvu & Huayue Zhang, 2013. "Utility Indifference Pricing: A Time Consistent Approach," Applied Mathematical Finance, Taylor & Francis Journals, vol. 20(4), pages 304-326, September.
    • Handle: RePEc:taf:apmtfi:v:20:y:2013:i:4:p:304-326
    DOI: 10.1080/1350486X.2012.700575
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    Cited by:

    1. Liurui Deng & Traian A. Pirvu, 2019. "Multi-Period Investment Strategies under Cumulative Prospect Theory," JRFM, MDPI, vol. 12(2), pages 1-15, May.
    2. Aditya Maheshwari & Traian A. Pirvu, 2020. "Portfolio Optimization under Correlation Constraint," Risks, MDPI, vol. 8(1), pages 1-18, February.
    3. Chong, Wing Fung, 2019. "Pricing and hedging equity-linked life insurance contracts beyond the classical paradigm: The principle of equivalent forward preferences," Insurance: Mathematics and Economics, Elsevier, vol. 88(C), pages 93-107.
    4. Aditya Maheshwari & Traian Pirvu, 2019. "Portfolio Optimization under Correlation Constraint," Papers 1912.12521, arXiv.org.
    5. Liurui Deng & Traian A. Pirvu, 2016. "Multi-period investment strategies under Cumulative Prospect Theory," Papers 1608.08490, arXiv.org, revised Mar 2019.
    6. Łukasz Delong, 2019. "Optimal investment for insurance company with exponential utility and wealth-dependent risk aversion coefficient," Mathematical Methods of Operations Research, Springer;Gesellschaft für Operations Research (GOR);Nederlands Genootschap voor Besliskunde (NGB), vol. 89(1), pages 73-113, February.

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