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Portfolio Selection with Transaction Costs and Jump-Diffusion Asset Dynamics I: A Numerical Solution

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  • Michal Czerwonko

    (John Molson School of Business, Concordia University, 1450 Rue Guy, Montréal, QC H3H 0A1, Canada)

  • Stylianos Perrakis

    (John Molson School of Business, Concordia University, 1450 Rue Guy, Montréal, QC H3H 0A1, Canada)

Abstract

We derive allocation rules under isoelastic utility for a mixed jump-diffusion process in a two-asset portfolio selection problem with finite horizon in the presence of proportional transaction costs. We adopt a discrete-time formulation, let the number of periods go to infinity, and show that it converges efficiently to the continuous-time solution for the cases where this solution is known. We then apply this discretization to derive numerically the boundaries of the region of no transactions. Our discrete-time numerical approach outperforms alternative continuous-time approximations of the problem.

Suggested Citation

  • Michal Czerwonko & Stylianos Perrakis, 2016. "Portfolio Selection with Transaction Costs and Jump-Diffusion Asset Dynamics I: A Numerical Solution," Quarterly Journal of Finance (QJF), World Scientific Publishing Co. Pte. Ltd., vol. 6(04), pages 1-23, December.
    • Handle: RePEc:wsi:qjfxxx:v:06:y:2016:i:04:n:s201013921650018x
    DOI: 10.1142/S201013921650018X
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    References listed on IDEAS

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    Cited by:

    1. George M. Constantinides & Michal Czerwonko & Stylianos Perrakis, 2020. "Mispriced index option portfolios," Financial Management, Financial Management Association International, vol. 49(2), pages 297-330, June.
    2. Michal Czerwonko & Stylianos Perrakis, 2016. "Portfolio Selection with Transaction Costs and Jump-Diffusion Asset Dynamics II: Economic Implications," Quarterly Journal of Finance (QJF), World Scientific Publishing Co. Pte. Ltd., vol. 6(04), pages 1-28, December.
    3. Stylianos Perrakis, 2022. "From innovation to obfuscation: continuous time finance fifty years later," Financial Markets and Portfolio Management, Springer;Swiss Society for Financial Market Research, vol. 36(3), pages 369-401, September.

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