Continuous time Black-Scholes equation with transaction costs in subdiffusive fractional Brownian motion regime

In this paper, we study the problem of continuous time option pricing with transaction costs by using the homogeneous subdiffusive fractional Brownian motion (HFBM) Z(t)=X(S_α(t)), 0<α<1, here dX(τ)=μX(τ)(dτ)^2H+σX(τ)dB_H(τ), as a model of asset prices, which captures the subdiffusive characteristic of financial markets. We find the corresponding subdiffusive Black-Scholes equation and the Black-Scholes formula for the fair prices of European option, the turnover and transaction costs of replicating strategies. We also give the total transaction costs.     

Option Pricing in Subdiffusive Bachelier Model

The earliest model of stock prices based on Brownian diffusion is the Bachelier model. In this paper we propose an extension of the Bachelier model, which reflects the subdiffusive nature of the underlying asset dynamics. The subdiffusive property is manifested by the random (infinitely divisible) periods of time, during which the asset price does not change. We introduce a subdiffusive arithmetic Brownian motion as a model of stock prices with such characteristics. The structure of this process agrees with two-stage scenario underlying the anomalous diffusion mechanism, in which trapping random events are superimposed on the Langevin dynamics. We find the corresponding fractional Fokker-Planck equation governing the probability density function of the introduced process. We construct the corresponding martingale measure and show that the model is incomplete. We derive the formulas for European put and call option prices. We describe explicit algorithms and present some Monte-Carlo simulations for the particular cases of α-stable and tempered α-stable distributions of waiting times.     

Black-Scholes Formula in Subdiffusive Regime

In the classical approach the price of an asset is described by the celebrated Black-Scholes model. In this paper we consider a generalization of this model, which captures the subdiffusive characteristics of financial markets. We introduce a subdiffusive geometric Brownian motion as a model of asset prices exhibiting subdiffusive dynamics. We find the corresponding fractional Fokker-Planck equation governing the dynamics of the probability density function of the introduced process. We prove that the considered model is arbitrage-free and incomplete. We find the corresponding subdiffusive Black-Scholes formula for the fair prices of European options and show how these prices can be evaluated using Monte-Carlo methods. We compare the obtained results with the classical ones.     

Statistical model of fluorescence blinking

Blinking of single molecules and nanocrystals is modeled as a two-state renewal process with on (fluorescent) and off (non-fluorescent) states. The on and off-times may have power-law or exponential distributions. A fractional generalization of the exponential function is used to develop a unified treatment of the blinking statistics for both types of distributions. In the framework of the two-state model, an equation for the probability density p(t _on|t) of the total on-time is derived. As applied to power-law blinking, the equation contains derivatives of fractional orders α and β equal to the exponents of the on and off-time power-law distributions, respectively. In the limit case of α = β = 1, the distributions become exponential and the fractional differential equation reduces to an integer order differential equation. Solutions to these equations are expressed in terms of fractional stable distributions. The Poisson transform of p(t _on|t) is the photon number distribution that determines the photon counting statistics. It is shown that the long-time asymptotic behavior of Mandel’s Q parameter follows a power law: M(t) ∝ t ^γ . The function γ(α, β) is defined on the (α, β) plane. An analysis of the relative variance of the total on-time shows that it decays only when α = β = 1 or α < β. Otherwise, relative fluctuations either exhibit asymptotic power-law growth or approach a constant level. Analytical calculations are in good agreement with the results of Monte Carlo simulations.     

Generalized Fokker-Planck equation for a class of stochastic dynamical systems driven by additive Gaussian and Poissonian fractional white noises of order <Emphasis Type="Italic">α</Emphasis>

In a first stage, the paper deals with the derivation and the solution of the equation of the probability density function of a stochastic system driven simultaneously by a fractional Gaussian white noise and a fractional Poissonian white noise both of the same order. The key is the Taylor’s series of fractional order f(x + h) = E _α(h^αD _x ^α)f(x) where E _α() denotes the Mittag-Leffler function, and D _x ^α is the so-called modified Riemann-Liouville fractional derivative which removes the effects of the non-zero initial value of the function under consideration. The corresponding fractional linear partial differential equation is solved by using a suitable extension of the Lagrange’s technique involving an auxiliary set of fractional differential equations. As an example, one considers a half-oscillator of fractional order driven by a fractional Poissonian noise.      

Vibrations and Fractional Vibrations of Rods,Plates and Fresnel Pseudo-Processes

Different initial and boundary value problems for the equation of vibrations of rods (also called Fresnel equation) are solved by exploiting the connection with Brownian motion and the heat equation. The equation of vibrations of plates is considered and the case of circular vibrating disks C _R is investigated by applying the methods of planar orthogonally reflecting Brownian motion within C _R . The analysis of the fractional version (of order ν) of the Fresnel equation is also performed and, in detail, some specific cases, like ν=1/2, 1/3, 2/3, are analyzed. By means of the fundamental solution of the Fresnel equation, a pseudo-process F(t), t>0 with real sign-varying density is constructed and some of its properties examined. The composition of F with reflecting Brownian motion B yields the law of biquadratic heat equation while the composition of F with the first passage time T _t of B produces a genuine probability law strictly connected with the Cauchy process.     

The Discrete Spectrum in the Gaps of the Continuous One for Non-Signdefinite Perturbations with a Large Coupling Constant

Given two selfadjoint operators A and V=V ₊ -V _-, we study the motion of the eigenvalues of the operator A(t)=A-tV as t increases. Let α>0 and let λ be a regular point for A. We consider the quantities N ₊(λ,α), N _-(λ,α), N ₀(λ,α) defined as the number of the eigenvalues of the operator A(t) that pass point λ from the right to the left, from the left to the right or change the direction of their motion exactly at point λ, respectively, as t increases from 0 to α>0. An abstract theorem on the asymptotics for these quantities is presented. Applications to Schr?dinger operators and its generalizations are given. Received: 9 April 1997 / Accepted: 26 August 1997     

Finite Time Approach to Equilibrium in a Fractional Brownian Velocity Field

We consider the solution of the equation r(t) = W(r(t)), r(0) = r ₀ > 0 where W(⋅) is a fractional Brownian motion (f.B.m.) with the Hurst exponent α∈ (0,1). We show that for almost all realizations of W(⋅) the trajectory reaches in finite time the nearest equilibrium point (i.e. zero of the f.B.m.) either to the right or to the left of r ₀, depending on whether W(r ₀) is positive or not. After reaching the equilibrium the trajectory stays in it forever. The problem is motivated by studying the separation between two particles in a Gaussian velocity field which satisfies a local self-similarity hypothesis. In contrast to the case when the forcing term is a Brownian motion (then an analogous statement is a consequence of the Markov property of the process) we show our result using as the principal tools the properties of time reversibility of the law of the f.B.m., see Lemma 2.4 below, and the small ball estimate of Molchan, Commun. Math. Phys. 205 (1999) 97–111.     

The application of fractional derivatives in stochastic models driven by fractional Brownian motion

In this paper, in order to establish connection between fractional derivative and fractional Brownian motion (FBM), we first prove the validity of the fractional Taylor formula proposed by Guy Jumarie. Then, by using the properties of this Taylor formula, we derive a fractional Itô formula for H∈[1/2,1), which coincides in form with the one proposed by Duncan for some special cases, whose formula is based on the Wick Product. Lastly, we apply this fractional Itô formula to the option pricing problem when the underlying of the option contract is supposed to be driven by a geometric fractional Brownian motion. The case that the drift, volatility and risk-free interest rate are all dependent on t is also discussed.     

Non-homogeneous random walks, generalised master equations, fractional Fokker-Planck equations, and the generalised Kramers-Moyal expansion

A generalised random walk scheme for random walks in an arbitrary external potential field is investigated. From this concept which accounts for the symmetry breaking of homogeneity through the external field, a generalised master equation is constructed. For long-tailed transfer distance or waiting time distributions we show that this generalised master equation is the genesis of apparently different fractional Fokker-Planck equations discussed in literature. On this basis, we introduce a generalisation of the Kramers-Moyal expansion for broad jump length distributions that combines multiples of both ordinary and fractional spatial derivatives. However, it is shown that the nature of the drift term is not changed through the existence of anomalous transport statistics, and thus to first order, an external potential Φ(x) feeds back on the probability density function W through the classical term ∝/ x (x)W(x, t), i.e., even for Lévy flights, there exists a linear infinitesimal generator that accounts for the response to an external field. Received 30 June 2000 and Received in final form 12 November 2000     

Maximum of a Fractional Brownian Motion: Probabilities of Small Values

Let b _γ (t), b _γ(0)= 0 be a fractional Brownian motion, i.e., a Gaussian process with the structure function , 0 < γ < 2. We study the logarithmic asymptotics of P _T = P{b _γ (t) < 1,□t∈TΔ} as T→∞, where Δ is either the interval (0,1) or a bounded region that contains a vicinity of 0 for the case of multidimensional time. It is shown that ln P _T = - D ln T(1 + o(1)), where D is the dimension of zeroes of b _γ (t) in the former case and the dimension of time in the latter. Received: 28 September 1998 / Accepted: 19 February 1999     

On the Energy Growth of Some Periodically Driven Quantum Systems with Shrinking Gaps in the Spectrum

We consider quantum Hamiltonians of the form H(t)=H+V(t) where the spectrum of H is semibounded and discrete, and the eigenvalues behave as E _n ∼n ^α , with 0<α<1. In particular, the gaps between successive eigenvalues decay as n ^α−1. V(t) is supposed to be periodic, bounded, continuously differentiable in the strong sense and such that the matrix entries with respect to the spectral decomposition of H obey the estimate ‖V(t) _m,n ‖≤ε|m−n|^−p max {m,n}^−2γ for m≠n, where ε>0, p≥1 and γ=(1−α)/2. We show that the energy diffusion exponent can be arbitrarily small provided p is sufficiently large and ε is small enough. More precisely, for any initial condition Ψ∈Dom(H ^1/2), the diffusion of energy is bounded from above as 〈H〉 _Ψ (t)=O(t ^σ ), where . As an application we consider the Hamiltonian H(t)=|p| ^α +ε v(θ,t) on L ²(S ¹,dθ) which was discussed earlier in the literature by Howland.     

Superdiffusion and stable laws

The superdiffusion equation with a fractional Laplacian Δ ^α/2 in _N-dimensional space describes the asymptotic (t→∞) behavior of a generalized Poisson process with the range (discontinuity) distribution density ∼|x|−α−1. The solutions of this equation belong to a class of spherically symmetric stable distributions. The main properties of these solutions are given together with their representations in the form of integrals and series and the results of numerical calculations. It is shown that allowance for the finite velocity of free particle motion for α>1 merely amounts to a reduction in the diffusion coefficient with the form of the distribution remaining stable. For α<1 the situation changes radically: the expansion velocity of the diffusion packet exceeds the velocity of free particle motion and the superdiffusion equation becomes physically meaningless. Zh. éksp. Teor. Fiz. 115, 1411–1425 (April 1999)     

Scaling and long-range dependence in option pricing II: Pricing European option with transaction costs under the mixed Brownian–fractional Brownian model

This paper deals with the problem of discrete-time option pricing by the mixed Brownian–fractional Brownian model with transaction costs. By a mean-self-financing delta hedging argument in a discrete-time setting, a European call option pricing formula is obtained. In particular, the minimal pricing c_min(t,s_t) of an option under transaction costs is obtained, which shows that timestep δt and Hurst exponent H play an important role in option pricing with transaction costs. In addition, we also show that there exists fundamental difference between the continuous-time trade and discrete-time trade and that continuous-time trade assumption will result in underestimating the value of a European call option.     

Statistics of photocounts of blinking fluorescence of quantum dots

The blinking of quantum dots under the action of laser radiation is described based on a model of a binary (two-state) renewal process with on (fluorescent) and off (non fluorescent) states. The T _on and T _off sojourn times in the on and off states are random and power-law distributed with exponents 0 < α < 1 and 0 < β < 1; the averages of the on and off times are infinite. As a consequence of this, the Gaussian statistics is inapplicable and the process is described using a more general statistics. An equation for the density of distribution p(t _on|t) of the total on time during the observation time t is derived that contains derivatives of fractional orders α and β. A solution to this equation is found in terms of fractional stable distributions. The Poisson transform of the density p(t _on|t) leads to the photon counting distribution and determines the fluorescence statistics. It is demonstrated that, if a blinking process with exponents α < β is implemented, then, at fairly long times, the on time will considerably prevail over the off time, i.e., blinking will be suppressed. This behavior is evidenced by the types of distributions of the total fluorescence time, the decay of relative fluctuations, and the Monte Carlo simulated trajectories of the process.     

The Behaviour of Aging Functions in One-Dimensional Bouchaud's Trap Model

Let τ_i be a collection of i.i.d. positive random variables with distribution in the domain of attraction of an α-stable law with α<1. The symmetric Bouchaud's trap model on ℤ is a Markov chain X(t) whose transition rates are given by w_xy=(2τ_x)⁻¹ if x, y are neighbours in ℤ. We study the behaviour of two correlation functions: ℙ[X(t_w+t)=X(t_w)] and It is well known that for any of these correlation functions a time-scale t=f(t_w) such that aging occurs can be found. We study these correlation functions on time-scales different from f(t_w), and we describe more precisely the behaviour of a singular diffusion obtained as the scaling limit of Bouchaud's trap model. Work supported by DFG Research Center Matheon ``Mathematics for key technologies'     

The Variational Principle for a Class of Asymptotically Abelian C*-Algebras

Let (A,α) be a C^*-dynamical system. We introduce the notion of pressure P _α(H) of the automorphism α at a self-adjoint operator H∈A. Then we consider the class of AF-systems satisfying the following condition: there exists a dense α-invariant *-subalgebra ? of A such that for all pairs a,b∈? the C^*-algebra they generate is finite dimensional, and there is p=p(a,b)∈ℕ such that [α ^j (a),b]= 0 for |j|≥p. For systems in this class we prove the variational principle, i.e. show that P _α(H) is the supremum of the quantities h _φ(α) −φ(H), where h _φ(α) is the Connes–Narnhofer–Thirring dynamical entropy of α with respect to the α-invariant state φ. If H∈A, and P _α(H) is finite, we show that any state on which the supremum is attained is a KMS-state with respect to a one-parameter automorphism group naturally associated with H. In particular, Voiculescu's topological entropy is equal to the supremum of h _φ(α), and any state of finite maximal entropy is a trace. Received: 19 April 2000 / Accepted: 14 June 2000     

The Motion of Repulsive Brownian Particles in Quenched Disorder

Brownian motion of the particles with repulsive interaction is investigated. When the potential condition is satisfied, the eigenvalue problem of interaction Fokker-Planck equation under certain conditions can be transformed to that of a many-particle Schrödinger equation. Using the Green's function method, we obtain the effective single-variable Fokker-Planck equation in the low density limit. We find that the diffusion of coupled Brownian particles in quenched disorder media is also anomalous in 2D. The Mittag-Leffler relaxation of pancake vortices is investigated by fractional Fokker-Planck equation.     

Distribution of a Particle’s Position in the ASEP with the Alternating Initial Condition

In this paper we give the distribution of the position of a particle in the asymmetric simple exclusion process (ASEP) with the alternating initial condition. That is, we find ℙ(X _m (t)≤x) where X _m (t) is the position of the particle at time t which was at m=2k−1, k∈ℤ at t=0. As in the ASEP with step initial condition, there arises a new combinatorial identity for the alternating initial condition, and this identity relates the integrand of the integral formula for ℙ(X _m (t)≤x) to a determinantal form together with an extra product.     

The mutual interaction of molecular rotation and translation

The dynamics of molecular rototranslation are treated with an equation of motion with a non-Markovian, stochastic force/torque. It is shown that this Mori/Kubo/Zwanzig representation is equivalent to a multidimensional Markov equation which may be identified with analytical models of the molecular motion. Langevin and Fokker-Planck equations for two such models are derived from the general equations of motion. The analytical results are compared with a computer simulation of the velocity/angular velocity mixed autocorrelation function, C _vω(t) = <v(0) . ω(t)> for a triatomic of C _2v symmetry.