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Optimal Liquidation in a Finite Time Regime Switching Model with Permanent and Temporary Pricing Impact

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Listed author(s):
  • Baojun Bian
  • Nan Wu
  • Harry Zheng
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    Abstract

    In this paper we discuss the optimal liquidation over a finite time horizon until the exit time. The drift and diffusion terms of the asset price are general functions depending on all variables including control and market regime. There is also a local nonlinear transaction cost associated to the liquidation. The model deals with both the permanent impact and the temporary impact in a regime switching framework. The problem can be solved with the dynamic programming principle. The optimal value function is the unique continuous viscosity solution to the HJB equation and can be computed with the finite difference method.

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    File URL: http://arxiv.org/pdf/1212.3145
    File Function: Latest version
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    Paper provided by arXiv.org in its series Papers with number 1212.3145.

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    Date of creation: Dec 2012
    Date of revision: Oct 2014
    Handle: RePEc:arx:papers:1212.3145
    Contact details of provider: Web page: http://arxiv.org/

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    1. Jouini, Elyes, 2000. "Price functionals with bid-ask spreads: an axiomatic approach," Journal of Mathematical Economics, Elsevier, vol. 34(4), pages 547-558, December.
    2. Paul Gassiat & Fausto Gozzi & Huy\^en Pham, 2011. "Investment/consumption problem in illiquid markets with regime-switching," Papers 1107.4210, arXiv.org, revised Apr 2012.
    3. Jaksa Cvitanić & Ioannis Karatzas, 1996. "HEDGING AND PORTFOLIO OPTIMIZATION UNDER TRANSACTION COSTS: A MARTINGALE APPROACH-super-2," Mathematical Finance, Wiley Blackwell, vol. 6(2), pages 133-165.
    4. Moustapha Pemy & Qing Zhang & G. George Yin, 2008. "Liquidation Of A Large Block Of Stock With Regime Switching," Mathematical Finance, Wiley Blackwell, vol. 18(4), pages 629-648.
    5. Pemy, M. & Zhang, Q. & Yin, G., 2007. "Liquidation of a large block of stock," Journal of Banking & Finance, Elsevier, vol. 31(5), pages 1295-1305, May.
    6. Umut Çetin & Robert A. Jarrow & Philip Protter, 2008. "Liquidity risk and arbitrage pricing theory," World Scientific Book Chapters,in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 8, pages 153-183 World Scientific Publishing Co. Pte. Ltd..
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    Cited by:

    1. Dmitry B. Rokhlin & Georgii Mironenko, 2016. "Regular finite fuel stochastic control problems with exit time," Mathematical Methods of Operations Research, Springer;Gesellschaft für Operations Research (GOR);Nederlands Genootschap voor Besliskunde (NGB), vol. 84(1), pages 105-127, August.

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