TY - JOUR
AU - Cochrane,John H.
AU - Saa-Requejo,Jesus
TI - Beyond Arbitrage: "Good-Deal" Asset Price Bounds in Incomplete Markets
JF - National Bureau of Economic Research Working Paper Series
VL - No. 5489
PY - 1996
Y2 - March 1996
DO - 10.3386/w5489
UR - http://www.nber.org/papers/w5489
L1 - http://www.nber.org/papers/w5489.pdf
N1 - Author contact info:
John H. Cochrane
Hoover Institution
434 Galvez Mall
Stanford University
Stanford, CA 94305-6010
Tel: 650 723 6708
E-Mail: john.cochrane@chicagobooth.edu
AB - It is often useful to price assets and other random payoffs by reference to other observed prices rather than construct full-fledged economic asset pricing models. This approach breaks down if one cannot find a perfect replicating portfolio. We impose weak economic restrictions to derive usefully tight bounds on asset prices in this situation. The bounds basically rule out high Sharpe ratios - `good deals' - as well as arbitrage opportunities. We present the method of calculation, we extend it to a multiperiod context by finding a recursive solution, and we apply it to option pricing examples including the Black-Scholes setup with infrequent trading, and a model with stochastic stock volatility and a varying riskfree rate.
ER -