Solving complex PDE systems for pricing American options with regime‐switching by efficient exponential time differencing schemes

In this article, we study the numerical solutions of a class of complex partial differential equation (PDE) systems with free boundary conditions. This problem arises naturally in pricing American options with regime‐switching, which adds significant complexity in the PDE systems due to regime coupling. Developing efficient numerical schemes will have important applications in computational finance. We propose a new method to solve the PDE systems by using a penalty method approach and an exponential time differencing scheme. First, the penalty method approach is applied to convert the free boundary value PDE system to a system of PDEs over a fixed rectangular region for the time and spatial variables. Then, a new exponential time differncing Crank–Nicolson (ETD‐CN) method is used to solve the resulting PDE system. This ETD‐CN scheme is shown to be second order convergent. We establish an upper bound condition for the time step size and prove that this ETD‐CN scheme satisfies a discrete version of the positivity constraint for American option values. The ETD‐CN scheme is compared numerically with a linearly implicit penalty method scheme and with a tree method. Numerical results are reported to illustrate the convergence of the new scheme. © 2012 Wiley Periodicals, Inc. Numer Methods Partial Differential Eq 2013     

Boundary output feedback stabilization for a class of coupled parabolic systems

In this paper, the boundary output feedback stabilization problem is addressed for a class of coupled nonlinear parabolic systems. An output feedback controller is presented by introducing a Luenberger‐type observer based on the measured outputs. To determine observer gains, a backstepping transform is introduced by choosing a suitable target system with nonlinearity. Furthermore, based on the state observer, a backstepping boundary control scheme is presented. With rigorous analysis, it is proved that the states of nonlinear closed‐loop system including state estimation and estimation error of plant system are locally exponentially stable in the L²norm. Finally, a numerical example is proposed to illustrate the effectiveness of the presented scheme.     

Galerkin approximations with embedded boundary conditions for retarded delay differential equations

Finite-dimensional approximations are developed for retarded delay differential equations (DDEs). The DDE system is equivalently posed as an initial-boundary value problem consisting of hyperbolic partial differential equations (PDEs). By exploiting the equivalence of partial derivatives in space and time, we develop a new PDE representation for the DDEs that is devoid of boundary conditions. The resulting boundary condition-free PDEs are discretized using the Galerkin method with Legendre polynomials as the basis functions, whereupon we obtain a system of ordinary differential equations (ODEs) that is a finite-dimensional approximation of the original DDE system. We present several numerical examples comparing the solution obtained using the approximate ODEs to the direct numerical simulation of the original non-linear DDEs. Stability charts developed using our method are compared to existing results for linear DDEs. The presented results clearly demonstrate that the equivalent boundary condition-free PDE formulation accurately captures the dynamic behaviour of the original DDE system and facilitates the application of control theory developed for systems governed by ODEs.     

Linear system identification via an asymptotically stable observer

This paper presents a formulation for identification of linear multivariable systems from single or multiple sets of input-output data. The system input-output relationship is expressed in terms of an observer, which is made asymptotically stable by an embedded eigenvalue assignment procedure. The prescribed eigenvalues for the observer may be real, complex, mixed real and complex, or zero corresponding to a deadbeat observer. In this formulation, the Markov parameters of the observer are first identified from input-output data. The Markov parameters of the actual system are then recovered from those of the observer and used to realize a state space model of the system. The basic mathematical formulation is derived, and numerical examples are presented to illustrate the proposed method.     

The Strong Stability and Instability of a Fluid-Structure Semigroup

The strong stability problem for a fluid-structure interactive partial differential equation (PDE) is considered. The PDE comprises a coupling of the linearized Stokes equations to the classical system of elasticity, with the coupling occurring on the boundary interface between the fluid and solid media. Because of the nature of the unbounded coupling between fluid and structure, the resolvent of the associated semigroup generator will not be a compact operator. In consequence, the classical solution to the stability problem, by means of the Nagy-Foias decomposition, will not avail here. Moreover, it is not practicable to write down explicitly the resolvent of the fluid-structure generator; this situation thus makes it problematic to use the well-known semigroup stability result of Arendt-Batty and Lyubich-Phong. When a locally supported boundary dissipative mechanism is in place, we derive here a result of strong decay for this fluid-structure PDE. In the absence of said dissipative mechanism, we show the lack of asymptotic decay for solutions corresponding to arbitary initial data of finite energy.     

Control-theoretic properties of structural acoustic models with thermal effects,I. Singular estimates

We consider a class of structural acoustics models with thermoelastic flexible wall. More precisely, the PDE system consists of a wave equation (within an acoustic chamber) which is coupled to a system of thermoelastic plate equations with rotational inertia; the coupling is strong as it is accomplished via boundary terms. Moreover, the system is subject to boundary thermal control. We show that—under three different sets of coupled (mechanical/thermal) boundary conditions—the overall coupled system inherits some specific regularity properties of its thermoelastic component, as it satisfies the same singular estimates recently established for the thermoelastic system alone. These regularity estimates are of central importance for (i) well-posedness of Differential and Algebraic Riccati equations arising in the associated optimal control problems, and (ii) existence of solutions to the semilinear initial/boundary value problem under nonlinear boundary conditions. The proof given uses as a critical ingredient a sharp trace theorem pertaining to second-order hyperbolic equations with Neumann boundary data.     

Robust state estimation and fault diagnosis for uncertain hybrid systems

Robust state estimation and fault diagnosis are challenging problems in the research into hybrid systems. In this paper a novel robust hybrid observer is proposed for a class of hybrid systems with unknown inputs and faults. Model uncertainties, disturbances and faults are represented as structured unknown inputs. The robust hybrid observer consists of a mode observer for mode identification and a continuous observer for continuous state estimation and mode transition detection. It is shown that the mode can be identified correctly and the continuous state estimation error is exponentially uniformly bounded. Robustness to model uncertainties and disturbances can be guaranteed for the hybrid observer by disturbance decoupling. Furthermore, the detectability and mode identifiability conditions are rigorously analyzed. On the basis of the robust hybrid observer, a robust fault detection and isolation scheme is presented also in the paper. Simulations of a hybrid four-tank system show the proposed approach is effective.     

A degenerating Cahn–Hilliard system coupled with complete damage processes

In this work, we analytically investigate a degenerating PDE system for phase separation and complete damage processes considered on a nonsmooth time-dependent domain with mixed boundary conditions. The evolution of the system is described by a degenerating Cahn–Hilliard equation for the concentration, a doubly nonlinear differential inclusion for the damage variable and a degenerating quasi-static balance equation for the displacement field. All these equations are highly nonlinearly coupled. Because of the doubly degenerating character of the system, the doubly nonlinear differential inclusion and the nonsmooth domain, the structure of the model is very complex from an analytical point of view.A novel approach is introduced for proving existence of weak solutions for such degenerating coupled system. To this end, we first establish a suitable notion of weak solutions, which consists of weak formulations of the diffusion and the momentum balance equation, a variational inequality for the damage process and a total energy inequality. To show existence of weak solutions, several new ideas come into play. Various results on shrinking sets and its corresponding local Sobolev spaces are used. It turns out that, for instance, on open sets which shrink in time a quite satisfying analysis in Sobolev spaces is possible. The presented analysis can handle highly nonsmooth regions where complete damage takes place. To mention only one difficulty, infinitely many completely damaged regions which are not connected with the Dirichlet boundary may occur in arbitrary small time intervals.     

The existence of solutions to a corrosion model

In this work, we consider a corrosion model of iron based alloy in a nuclear waste repository. It consists of a PDE system, similar to the steady-state drift–diffusion system arising in semiconductor modelling. The main difference lies in the boundary conditions, since they are Robin boundary conditions and imply an additional coupling between the equations. Using a priori estimates for the solution and Schauder’s fixed point theorem, we show the existence of solutions to the corrosion model.     

Robust state estimation and fault diagnosis for uncertain hybrid nonlinear systems

Robust state estimation and fault diagnosis are challenging problems in the research of hybrid systems. In this paper, a novel robust hybrid observer is proposed for a class of uncertain hybrid nonlinear systems with unknown mode transition functions, model uncertainties and unknown disturbances. The observer consists of a mode observer for discrete mode estimation and a continuous observer for continuous state estimation. It is shown that the mode can be identified correctly and the continuous state estimation error is exponentially uniformly bounded. Robustness to unknown transition functions, model uncertainties and disturbances can be guaranteed by disturbance decoupling and selecting proper thresholds. The transition detectability and mode identifiability conditions are rigorously analyzed. Based on the robust hybrid observer, a robust fault diagnosis scheme is presented for faults modeled as discrete modes with unknown transition functions, and the analytical properties are investigated. Simulations of a hybrid three-tank system demonstrate that the proposed approach is effective.     

On the attainability problem under state constraints with piecewise smooth boundary

The paper is devoted to the problem of approximating reachable sets for a nonlinear control system with state constraints given as a solution set of a finite system of nonlinear inequalities. Each of these inequalities is given as a level set of a smooth function, but their intersection may have nonsmooth boundary. We study a procedure of eliminating the state constraints based on the introduction of an auxiliary system without constraints such that the right-hand sides of its equations depend on a small parameter. For state constraints with smooth boundary, it was shown earlier that the reachable set of the original system can be approximated in the Hausdorff metric by the reachable sets of the auxiliary control system as the small parameter tends to zero. In the present paper, these results are extended to the considered class of systems with piecewise smooth boundary of the state constraints.     

Active disturbance rejection control based on weighed-moving-average-state-observer

In this work, we are concerned with the boundary stabilization of a one-dimensional anti-stable wave equation corrupted by a boundary disturbance. We firstly propose, by weighed moving average technique, a state observer to make an estimation of the disturbance. Secondly, we design a control by the active disturbance rejection strategy to stabilize the system.     

A dissipative model for hydrogen storage: existence and regularity results

We prove global existence of a solution to an initial and boundary‐value problem for a highly nonlinear PDE system. The problem arises from a thermo‐mechanical dissipative model describing hydrogen storage by use of metal hydrides. In order to treat the model from an analytical point of view, we formulate it as a phase transition phenomenon thanks to the introduction of a suitable phase variable. Continuum mechanics laws lead to an evolutionary problem involving three state variables: the temperature, the phase parameter and the pressure. The problem thus consists of three coupled partial differential equations combined with initial and boundary conditions. The existence and regularity of the solutions are here investigated by means of a time discretization—textita priori estimates—passage to the limit procedure joined with compactness and monotonicity arguments. Copyright © 2010 John Wiley & Sons, Ltd.     

The Newton Polygon and Elliptic Problems with Parameter

In the study of the resolvent of a scalar elliptic operator, say, on a manifold without boundary there is a well-known Agmon-Agranovich-Vishik condition of ellipticity with parameter which guarantees the existence of a ray of minimal growth of the resolvent. The paper is devoted to the investigation of the same problem in the case of systems which are elliptic in the sense of Douglis-Nirenberg. We look for algebraic conditions on the symbol providing the existence of the resolvent set containing a ray on the complex plane. We approach the problem using the Newton polyhedron method. The idea of the method is to study simultaneously all the quasihomogeneous parts of the system obtained by assigning to the spectral parameter various weights, defined by the corresponding Newton polygon. On this way several equivalent necessary and sufficient conditions on the symbol of the system guaranteeing the existence and sharp estimates for the resolvent are found. One of the equivalent conditions can be formulated in the following form: all the upper left minors of the symbol satisfy ellipticity conditions. This subclass of systems elliptic in the sense of Douglis-Nirenberg was introduced by A. KOZHEVNIKOV [K2].     

A PDE Approach to Large-Time Asymptotics for Boundary-Value Problems for Nonconvex Hamilton–Jacobi Equations

We investigate the large-time behavior of three types of initial-boundary value problems for Hamilton–Jacobi Equations with nonconvex Hamiltonians. We consider the Neumann or oblique boundary condition, the state constraint boundary condition and Dirichlet boundary condition. We establish general convergence results for viscosity solutions to asymptotic solutions as time goes to infinity via an approach based on PDE techniques. These results are obtained not only under general conditions on the Hamiltonians but also under weak conditions on the domain and the oblique direction of reflection in the Neumann case.     

Wellposedness of the boundary value formulation of a fixed strike Asian option

This work is the follow up to [J. Hugger, Numerical Mathematics and Advanced Applications—Enumath 2001, Springer, Italy, 2003] where a partial differential equation equivalent to the stochastic formulation for a fixed strike Asian option was derived.In the present work the differential equation is complemented with boundary value conditions that are derived from financial conditions.With the complete boundary value formulation thus recovered, wellposedness of the problem is adressed. It turns out that the problem takes the form of a degenerated parabolic boundary value problem with a second-order, linear, time-dependent PDE with non-negative characteristic form. Apart from the degeneracy in the PDE, also the boundary conditions (derived from the financial understanding) are “the wrong ones” or at least are non-standard. There are conditions on boundaries where none are expected to be needed bacause of the degeneracy and there are boundaries where conditions are expected to be needed but none can be found.     

Diffusive logistic equation with constant yield harvesting and negative density dependent emigration on the boundary

The structure of positive steady state solutions of a diffusive logistic population model with constant yield harvesting and negative density dependent emigration on the boundary is examined. In particular, a class of nonlinear boundary conditions that depends both on the population density and the diffusion coefficient is used to model the effects of negative density dependent emigration on the boundary. Our existence results are established via the well-known sub-super solution method.     

Boundary stabilization of non-classical micro-scale beams

In this paper, the problem of boundary stabilization of a vibrating non-classical micro-scale Euler–Bernoulli beam is considered. In non-classical micro-beams, the governing Partial Differential Equation (PDE) of motion is obtained based on the non-classical continuum mechanics which introduces material length scale parameters. In this research, linear boundary control laws are constructed to stabilize the free vibration of non-classical micro-beams which its governing PDE is derived based on the modified strain gradient theory as one of the most inclusive non-classical continuum theories. Well-posedness and asymptotic stabilization of the closed loop system are investigated for both cases of complete and incomplete boundary control inputs. To illustrate the performance of the designed controllers, the closed loop PDE model of the system is simulated via Finite Element Method (FEM). To this end, new strain gradient beam element stiffness and mass matrices are derived in this work.     

Existence of local‐in‐time classical solutions of a model of flow in a bounded elastic tube

This paper studies the local‐in‐time existence of classical solutions to a hyperbolic system with differential boundary conditions modelling a flow in an elastic tube. The well‐known Lax transformations used for obtaining a priori estimates for conservation laws are difficult to apply here because of the inhomogeneity of the partial differential equations (PDE). Rather, our method relies on a suitable splitting of the original system into the PDE part and the ODE part, the characteristics for the PDE part, appropriate modulus of continuity estimates and a compactness argument. Copyright © 2016 John Wiley & Sons, Ltd.     

Numerical Methods and Volatility Models for Valuing Cliquet Options

Several numerical issues for valuing cliquet options using PDE methods are investigated. The use of a running sum of returns formulation is compared to an average return formulation. Methods for grid construction, interpolation of jump conditions, and application of boundary conditions are compared. The effect of various volatility modelling assumptions on the value of cliquet options is also studied. Numerical results are reported for jump diffusion models, calibrated volatility surface models, and uncertain volatility models.