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No Good Deals - No Bad Models

Author Info

Listed author(s):
  • Nina, Boyarchenko
  • Mario, Cerrato
  • John, Crosby
  • Stewart, Hodges

Abstract

Faced with the problem of pricing complex contingent claims, an investor seeks to make his valuations robust to model uncertainty. We construct a notion of a model- uncertainty-induced utility function and show that model uncertainty increases the investor's eff ective risk aversion. Using the model-uncertainty-induced utility function, we extend the \No Good Deals" methodology of Cochrane and Sa a-Requejo [2000] to compute lower and upper good deal bounds in the presence of model uncertainty. We illustrate the methodology using some numerical examples.

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File URL: http://hdl.handle.net/10943/452
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Paper provided by Scottish Institute for Research in Economics (SIRE) in its series SIRE Discussion Papers with number 2013-20.

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Date of creation: 2013
Handle: RePEc:edn:sirdps:452
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Keywords: Asset pricing theory; Good deal bounds; Knightian uncertainty; Model uncertainty; Contingent claim pricing; model-uncertainty-induced utility function;

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Find related papers by JEL classification:
  • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
  • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

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Cited by:

  1. Dirk Becherer & Klebert Kentia, 2016. "Hedging under generalized good-deal bounds and model uncertainty," Papers 1607.04488, arXiv.org, revised Apr 2017.

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