Affine representations of fractional processes with applications in mathematical finance |
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Authors: | Philipp Harms David Stefanovits |
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Affiliation: | 1. Department of Mathematical Stochastics, University of Freiburg, Germany;2. ETH Zurich, Switzerland |
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Abstract: | Fractional processes have gained popularity in financial modeling due to the dependence structure of their increments and the roughness of their sample paths. The non-Markovianity of these processes gives, however, rise to conceptual and practical difficulties in computation and calibration. To address these issues, we show that a certain class of fractional processes can be represented as linear functionals of an infinite dimensional affine process. This can be derived from integral representations similar to those of Carmona, Coutin, Montseny, and Muravlev. We demonstrate by means of several examples that this allows one to construct tractable financial models with fractional features. |
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Keywords: | 60G22 60G15 60J25 91G30 Fractional process Markovian representation Affine process Infinite-dimensional Markov process Fractional interest rate model Fractional volatility model |
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