Mathematics – Probability
Scientific paper
2009-07-06
Annals of Applied Probability 2012, Vol. 22, No. 1, 285-336
Mathematics
Probability
Published in at http://dx.doi.org/10.1214/11-AAP769 the Annals of Applied Probability (http://www.imstat.org/aap/) by the Inst
Scientific paper
10.1214/11-AAP769
In this paper we consider a class of BSDEs with drivers of quadratic growth, on a stochastic basis generated by continuous local martingales. We first derive the Markov property of a forward--backward system (FBSDE) if the generating martingale is a strong Markov process. Then we establish the differentiability of a FBSDE with respect to the initial value of its forward component. This enables us to obtain the main result of this article, namely a representation formula for the control component of its solution. The latter is relevant in the context of securitization of random liabilities arising from exogenous risk, which are optimally hedged by investment in a given financial market with respect to exponential preferences. In a purely stochastic formulation, the control process of the backward component of the FBSDE steers the system into the random liability and describes its optimal derivative hedge by investment in the capital market, the dynamics of which is given by the forward component.
Imkeller Peter
Réveillac Anthony
Richter Anja
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