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On asset pricing in a binomial model with fixed and proportional transaction costs, portfolio constraints and dividends

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  • Esmaeil Babaei

    (The Manchester Metropolitan University)

Abstract

We extend the classical binomial model proposed by Cox, Ross, and Rubinstein for derivative security pricing to encompass both fixed and proportional transaction costs, portfolio constraints including margin requirements, and dividend-paying assets. Our focus is on studying option hedging within this enriched framework. Initially, we establish the existence of a hedging strategy in this context. Subsequently, we determine the optimal hedging strategy and its associated initial cost by decomposing the problem into a sequence of hedging problems. To illustrate our approach, we present a numerical example within a 3-period binomial model.

Suggested Citation

  • Esmaeil Babaei, 2025. "On asset pricing in a binomial model with fixed and proportional transaction costs, portfolio constraints and dividends," Mathematical Methods of Operations Research, Springer;Gesellschaft für Operations Research (GOR);Nederlands Genootschap voor Besliskunde (NGB), vol. 101(1), pages 29-50, February.
    • Handle: RePEc:spr:mathme:v:101:y:2025:i:1:d:10.1007_s00186-024-00881-0
    DOI: 10.1007/s00186-024-00881-0
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    References listed on IDEAS

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    More about this item

    Keywords

    Binomial model; Self-financing condition; Transaction costs; Hedging; Portfolio constraints; Dividends;
    All these keywords.

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis
    • C65 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Miscellaneous Mathematical Tools
    • C67 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Input-Output Models

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