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A control approach to robust utility maximization with logarithmic utility and time-consistent penalties

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  • Hernández-Hernández, Daniel
  • Schied, Alexander

Abstract

We propose a stochastic control approach to the dynamic maximization of robust utility functionals that are defined in terms of logarithmic utility and a dynamically consistent convex risk measure. The underlying market is modeled by a diffusion process whose coefficients are driven by an external stochastic factor process. In particular, the market model is incomplete. Our main results give conditions on the minimal penalty function of the robust utility functional under which the value function of our problem can be identified with the unique classical solution of a quasilinear PDE within a class of functions satisfying certain growth conditions. The fact that we obtain classical solutions rather than viscosity solutions facilitates the use of numerical algorithms, whose applicability is demonstrated in examples.

Suggested Citation

  • Hernández-Hernández, Daniel & Schied, Alexander, 2007. "A control approach to robust utility maximization with logarithmic utility and time-consistent penalties," Stochastic Processes and their Applications, Elsevier, vol. 117(8), pages 980-1000, August.
    • Handle: RePEc:eee:spapps:v:117:y:2007:i:8:p:980-1000
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    References listed on IDEAS

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    1. Hernández-Hernández Daniel & Schied Alexander, 2006. "Robust utility maximization in a stochastic factor model," Statistics & Risk Modeling, De Gruyter, vol. 24(1), pages 109-125, July.
    2. Schmeidler, David, 1989. "Subjective Probability and Expected Utility without Additivity," Econometrica, Econometric Society, vol. 57(3), pages 571-587, May.
    3. Alexander Schied, 2005. "Optimal Investments for Robust Utility Functionals in Complete Market Models," Mathematics of Operations Research, INFORMS, vol. 30(3), pages 750-764, August.
    4. Gilboa, Itzhak & Schmeidler, David, 1989. "Maxmin expected utility with non-unique prior," Journal of Mathematical Economics, Elsevier, vol. 18(2), pages 141-153, April.
    5. Lars Peter Hansen & Thomas J Sargent, 2014. "Robust Control and Model Uncertainty," World Scientific Book Chapters, in: UNCERTAINTY WITHIN ECONOMIC MODELS, chapter 5, pages 145-154, World Scientific Publishing Co. Pte. Ltd..
    6. Schied, Alexander & Wu, Ching-Tang, 2005. "Duality theory for optimal investments under model uncertainty," SFB 649 Discussion Papers 2005-025, Humboldt University Berlin, Collaborative Research Center 649: Economic Risk.
    7. Burgert Christian & Rüschendorf Ludger, 2005. "Optimal consumption strategies under model uncertainty," Statistics & Risk Modeling, De Gruyter, vol. 23(1), pages 1-14, January.
    8. Denis Talay & Ziyu Zheng, 2002. "Worst case model risk management," Finance and Stochastics, Springer, vol. 6(4), pages 517-537.
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    Citations

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    Cited by:

    1. Daniel Hern'andez-Hern'andez & Leonel P'erez-Hern'andez, 2012. "Robust utility maximization for L\'evy processes: Penalization and solvability," Papers 1206.0715, arXiv.org.
    2. Jakub Trybu{l}a & Dariusz Zawisza, 2014. "Continuous time portfolio choice under monotone preferences with quadratic penalty - stochastic interest rate case," Papers 1404.5408, arXiv.org.
    3. Cohen, Asaf & Saha, Subhamay, 2021. "Asymptotic optimality of the generalized cμ rule under model uncertainty," Stochastic Processes and their Applications, Elsevier, vol. 136(C), pages 206-236.
    4. Sigrid Källblad, 2017. "Risk- and ambiguity-averse portfolio optimization with quasiconcave utility functionals," Finance and Stochastics, Springer, vol. 21(2), pages 397-425, April.
    5. Li, Bin & Li, Danping & Xiong, Dewen, 2016. "Alpha-robust mean-variance reinsurance-investment strategy," Journal of Economic Dynamics and Control, Elsevier, vol. 70(C), pages 101-123.
    6. Sigrid Källblad & Jan Obłój & Thaleia Zariphopoulou, 2018. "Dynamically consistent investment under model uncertainty: the robust forward criteria," Finance and Stochastics, Springer, vol. 22(4), pages 879-918, October.
    7. Keita Owari, 2009. "Robust Exponential Hedging in a Brownian Setting," Global COE Hi-Stat Discussion Paper Series gd09-082, Institute of Economic Research, Hitotsubashi University.
    8. repec:hum:wpaper:sfb649dp2008-038 is not listed on IDEAS
    9. Sigrid Kallblad, 2013. "Risk- and ambiguity-averse portfolio optimization with quasiconcave utility functionals," Papers 1311.7419, arXiv.org.
    10. Balter, Anne G. & Pelsser, Antoon, 2020. "Pricing and hedging in incomplete markets with model uncertainty," European Journal of Operational Research, Elsevier, vol. 282(3), pages 911-925.
    11. Li Chen & Simai He & Shuzhong Zhang, 2011. "Tight Bounds for Some Risk Measures, with Applications to Robust Portfolio Selection," Operations Research, INFORMS, vol. 59(4), pages 847-865, August.
    12. Revaz Tevzadze & Teimuraz Toronjadze & Tamaz Uzunashvili, 2013. "Robust utility maximization for a diffusion market model with misspecified coefficients," Finance and Stochastics, Springer, vol. 17(3), pages 535-563, July.
    13. Enzo Giacomini & Wolfgang Härdle & Volker Krätschmer, 2009. "Dynamic semiparametric factor models in risk neutral density estimation," AStA Advances in Statistical Analysis, Springer;German Statistical Society, vol. 93(4), pages 387-402, December.
    14. Ulrich Horst & Xiaonyu Xia & Chao Zhou, 2019. "Portfolio liquidation under factor uncertainty," Papers 1909.00748, arXiv.org.
    15. Juan Li & Wenqiang Li & Gechun Liang, 2020. "A game theoretical approach to homothetic robust forward investment performance processes in stochastic factor models," Papers 2005.10660, arXiv.org, revised May 2021.
    16. Owari, Keita & 尾張, 圭太, 2008. "Robust Exponential Hedging and Indifference Valuation," Discussion Papers 2008-09, Graduate School of Economics, Hitotsubashi University.
    17. Jakub Trybu{l}a & Dariusz Zawisza, 2014. "Continuous-Time Portfolio Choice Under Monotone Mean-Variance Preferences-Stochastic Factor Case," Papers 1403.3212, arXiv.org, revised Jan 2020.
    18. Hans Follmer & Alexander Schied, 2013. "Probabilistic aspects of finance," Papers 1309.7759, arXiv.org.
    19. Daniel Bartl & Ariel Neufeld & Kyunghyun Park, 2023. "Sensitivity of robust optimization problems under drift and volatility uncertainty," Papers 2311.11248, arXiv.org.
    20. Sigrid Kallblad & Jan Obloj & Thaleia Zariphopoulou, 2013. "Time--consistent investment under model uncertainty: the robust forward criteria," Papers 1311.3529, arXiv.org, revised Nov 2014.

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