Chapter 11

Arrow–Debreu Pricing, Part II

Chapter 11 further explores the topic of Arrow–Debreu pricing, and how Arrow–Debreu security prices may be used to price more complex assets. In contexts where the financial markets are not complete (not every future date-state has an Arrow–Debreu security that pays in that date-state), we demonstrate both theoretically and practically how options can be used to complete them. Arrow–Debreu pricing techniques are also extended to the pricing of multi-period cash flows.

Keywords

Arrow–Debreu securities; Value Additivity Theorem; complex securities; state-contingent claim; market completeness; completing the market

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