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Lecture# Market Structure: Portfolio, Arbitrage, and Consumption

Description

This lecture covers market structure, risky asset prices, portfolio holdings, completeness of markets, arbitrage, state prices, the law of one price, and optimal consumption-portfolio choice problems. It also discusses valuation functionals, the fundamental theorems of asset pricing, and risk-neutral measures.

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In course

Instructor

FIN-609: Asset Pricing (2011 - 2024)

This course provides an overview of the theory of asset pricing and portfolio choice theory following historical developments in the field and putting
emphasis on theoretical models that help our unde

Related concepts (137)

Related lectures (101)

Asset pricing

In financial economics, asset pricing refers to a formal treatment and development of two main pricing principles, outlined below, together with the resultant models. There have been many models developed for different situations, but correspondingly, these stem from either general equilibrium asset pricing or rational asset pricing, the latter corresponding to risk neutral pricing.

Arbitrage

In economics and finance, arbitrage (ˈɑːrbᵻtrɑːʒ, -trɪdʒ) is the practice of taking advantage of a difference in prices in two or more markets; striking a combination of matching deals to capitalise on the difference, the profit being the difference between the market prices at which the unit is traded. When used by academics, an arbitrage is a transaction that involves no negative cash flow at any probabilistic or temporal state and a positive cash flow in at least one state; in simple terms, it is the possibility of a risk-free profit after transaction costs.

Fundamental theorem of asset pricing

The fundamental theorems of asset pricing (also: of arbitrage, of finance), in both financial economics and mathematical finance, provide necessary and sufficient conditions for a market to be arbitrage-free, and for a market to be complete. An arbitrage opportunity is a way of making money with no initial investment without any possibility of loss. Though arbitrage opportunities do exist briefly in real life, it has been said that any sensible market model must avoid this type of profit.

Rational pricing

Rational pricing is the assumption in financial economics that asset prices – and hence asset pricing models – will reflect the arbitrage-free price of the asset as any deviation from this price will be "arbitraged away". This assumption is useful in pricing fixed income securities, particularly bonds, and is fundamental to the pricing of derivative instruments. Arbitrage is the practice of taking advantage of a state of imbalance between two (or possibly more) markets. Where this mismatch can be exploited (i.

Risk-neutral measure

In mathematical finance, a risk-neutral measure (also called an equilibrium measure, or equivalent martingale measure) is a probability measure such that each share price is exactly equal to the discounted expectation of the share price under this measure. This is heavily used in the pricing of financial derivatives due to the fundamental theorem of asset pricing, which implies that in a complete market, a derivative's price is the discounted expected value of the future payoff under the unique risk-neutral measure.

Equilibrium State Prices DeterminationFIN-609: Asset Pricing (2011 - 2024)

Explains the determination of equilibrium state prices in asset pricing through consumption market clearing and budget constraints.

Asset Pricing: Theory and ApplicationsFIN-609: Asset Pricing (2011 - 2024)

Series covers asset pricing theories, mean-variance optimization, state prices, and risk-neutral measures.

Financial Market Models: Arbitrage and Completeness

Explores arbitrage-free and complete financial market models, risk-neutral probabilities, structured notes pricing, and option hedging.

Portfolio Theory: Risk Parity StrategyFIN-405: Investments

Explores Portfolio Theory with a focus on the Risk Parity Strategy, discussing asset allocation proportional to the inverse of volatility and comparing different diversified portfolios.

Pareto Efficiency and Social WelfareFIN-609: Asset Pricing (2011 - 2024)

Explores Pareto efficiency, social welfare, and asset pricing optimization in complete and incomplete markets.