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Hedging in an equilibrium-based model for a large investor

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  • David German
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    Abstract

    We study a financial model with a non-trivial price impact effect. In this model we consider the interaction of a large investor trading in an illiquid security, and a market maker who is quoting prices for this security. We assume that the market maker quotes the prices such that by taking the other side of the investor's demand, the market maker will arrive at maturity with maximal expected wealth. Within this model we concentrate on the issue of contingent claims' hedging.

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    File URL: http://arxiv.org/pdf/0910.3258
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    Bibliographic Info

    Paper provided by arXiv.org in its series Papers with number 0910.3258.

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    Date of creation: Oct 2009
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    Handle: RePEc:arx:papers:0910.3258

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    1. Huang, Ming, 2003. "Liquidity shocks and equilibrium liquidity premia," Journal of Economic Theory, Elsevier, vol. 109(1), pages 104-129, March.
    2. Umut Çetin & Robert Jarrow & Philip Protter, 2004. "Liquidity risk and arbitrage pricing theory," Finance and Stochastics, Springer, vol. 8(3), pages 311-341, 08.
    3. Peter Bank & Dietmar Baum, 2004. "Hedging and Portfolio Optimization in Financial Markets with a Large Trader," Mathematical Finance, Wiley Blackwell, vol. 14(1), pages 1-18.
    4. Stoll, Hans R, 1978. "The Supply of Dealer Services in Securities Markets," Journal of Finance, American Finance Association, vol. 33(4), pages 1133-51, September.
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