Discrete-Time Portfolio Processes
In this chapter we introduce the notion of a self-financing, replicating portfolio, a key component of option valuation models. Such a portfolio is based on underlying assets whose values are assumed to be discrete-time random processes, defined in the first section of this chapter. Portfolios based on assets with continuous-time value random processes are considered in later chapters.
5.1 Discrete Time Stochastic Processes
Many experiments are dynamic, that is, they continue over time. Repeated tosses of a coin or the periodic observation of price fluctuations of a stock are simple examples. If the outcome of the experiment at time n is described by a random variable Xn, then the sequence (Xn) may ...
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