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## Stochastic Calculus for Quantitative Finance

In 1994 and 1998 F. Delbaen and W. Schachermayer published two breakthrough papers in which they proved continuous-time versions of the Fundamental Theorem of Asset Pricing. This is one of the most remarkable achievements in modern Mathematical Finance which led to intensive investigations in many applications of the arbitrage theory on a mathematically rigorous basis of stochastic calculus.

This book provides the reader with a detailed understanding of all necessary attributes in stochastic calculus that are required for applications of the theory of stochastic integration in Mathematical Finance, in particular, in the arbitrage theory. The exposition follows the traditions of the Strasbourg school.

S. Kotani (2006) has characterised the martingale property of a one-dimensional diffusion in natural scale in terms of the classification of its boundaries. We complement this result by establishing a necessary and sufficient condition for a one-dimensional diffusion in natural scale to be a submartingale or a supermartingale. Furthermore, we study the asymptotic behaviour of the diffusion's expected state at time $t$ as $t \rightarrow \infty$. We illustrate our results by means of several examples.

Statistical testing can be framed as a repetitive game between two players, Forecaster and Sceptic. On each round, Forecaster sets prices for various gambles, and Sceptic chooses which gambles to make. If Sceptic multiplies by a large factor the capital he puts at risk, he has evidence against Forecaster’s ability. His capital at the end of each round is a measure of his evidence against Forecaster so far. This can go up and then back down. If you report the maximum so far instead of the current value, you are exaggerating the evidence against Forecaster. In this article, we show how to remove the exaggeration. Removing it means systematically reducing the maximum in such a way that a rival to Sceptic can always play so as to obtain current evidence as good as Sceptic’s reduced maximum. We characterize the functions that can achieve such reductions. Because these functions may impose only modest reductions, we think of our result as a method of insuring against loss of evidence. In the context of an actual market, it is a method of insuring against the loss of what an investor has gained so far.

We consider some aspects of quasi-likelihood methods used in estimation of parameters of stochastic processes.

This proceedings publication is a compilation of selected contributions from the “Third International Conference on the Dynamics of Information Systems” which took place at the University of Florida, Gainesville, February 16–18, 2011. The purpose of this conference was to bring together scientists and engineers from industry, government, and academia in order to exchange new discoveries and results in a broad range of topics relevant to the theory and practice of dynamics of information systems. Dynamics of Information Systems: Mathematical Foundation presents state-of-the art research and is intended for graduate students and researchers interested in some of the most recent discoveries in information theory and dynamical systems. Scientists in other disciplines may also benefit from the applications of new developments to their own area of study.

A nonnegative martingale with initial value equal to one mea- sures evidence against a probabilistic hypothesis. The inverse of its value at some stopping time can be interpreted as a Bayes factor. If we exaggerate the evidence by considering the largest value attained so far by such a martingale, the exaggeration will be limited, and there are systematic ways to eliminate it. The inverse of the exaggerated value at some stopping time can be interpreted as a p-value. We give a simple characterization of all increasing functions that eliminate the exaggeration.

Let X be a semimartingale which is locally square integrable and admitting the canonical decompositions X=M+A and X=M ' +A ' with respect to measures P and P ' . Let γ be the density of A-A ' with respect to C=(〈M〉+〈M ' 〉) in the Lebesgue decomposition. Then there is a version h of the Hellinger process h(1/2;P,P ' ) such that (1-Δh) -2 ·h⪰(1/8)γ 2 ·C P- and P ' -a.s. This inequality is related with a generalization of the Cramér-Rao inequality to the case of filtered space. The author gives some applications to a continuous-time linear regression model as well as to a discrete-time autoregression model with martingale errors.

A model for organizing cargo transportation between two node stations connected by a railway line which contains a certain number of intermediate stations is considered. The movement of cargo is in one direction. Such a situation may occur, for example, if one of the node stations is located in a region which produce raw material for manufacturing industry located in another region, and there is another node station. The organization of freight traﬃc is performed by means of a number of technologies. These technologies determine the rules for taking on cargo at the initial node station, the rules of interaction between neighboring stations, as well as the rule of distribution of cargo to the ﬁnal node stations. The process of cargo transportation is followed by the set rule of control. For such a model, one must determine possible modes of cargo transportation and describe their properties. This model is described by a ﬁnite-dimensional system of diﬀerential equations with nonlocal linear restrictions. The class of the solution satisfying nonlocal linear restrictions is extremely narrow. It results in the need for the “correct” extension of solutions of a system of diﬀerential equations to a class of quasi-solutions having the distinctive feature of gaps in a countable number of points. It was possible numerically using the Runge–Kutta method of the fourth order to build these quasi-solutions and determine their rate of growth. Let us note that in the technical plan the main complexity consisted in obtaining quasi-solutions satisfying the nonlocal linear restrictions. Furthermore, we investigated the dependence of quasi-solutions and, in particular, sizes of gaps (jumps) of solutions on a number of parameters of the model characterizing a rule of control, technologies for transportation of cargo and intensity of giving of cargo on a node station.

Let k be a field of characteristic zero, let G be a connected reductive algebraic group over k and let g be its Lie algebra. Let k(G), respectively, k(g), be the field of k- rational functions on G, respectively, g. The conjugation action of G on itself induces the adjoint action of G on g. We investigate the question whether or not the field extensions k(G)/k(G)^G and k(g)/k(g)^G are purely transcendental. We show that the answer is the same for k(G)/k(G)^G and k(g)/k(g)^G, and reduce the problem to the case where G is simple. For simple groups we show that the answer is positive if G is split of type A_n or C_n, and negative for groups of other types, except possibly G_2. A key ingredient in the proof of the negative result is a recent formula for the unramified Brauer group of a homogeneous space with connected stabilizers. As a byproduct of our investigation we give an affirmative answer to a question of Grothendieck about the existence of a rational section of the categorical quotient morphism for the conjugating action of G on itself.

Let G be a connected semisimple algebraic group over an algebraically closed field k. In 1965 Steinberg proved that if G is simply connected, then in G there exists a closed irreducible cross-section of the set of closures of regular conjugacy classes. We prove that in arbitrary G such a cross-section exists if and only if the universal covering isogeny Ĝ → G is bijective; this answers Grothendieck's question cited in the epigraph. In particular, for char k = 0, the converse to Steinberg's theorem holds. The existence of a cross-section in G implies, at least for char k = 0, that the algebra k[G]G of class functions on G is generated by rk G elements. We describe, for arbitrary G, a minimal generating set of k[G]G and that of the representation ring of G and answer two Grothendieck's questions on constructing generating sets of k[G]G. We prove the existence of a rational (i.e., local) section of the quotient morphism for arbitrary G and the existence of a rational cross-section in G (for char k = 0, this has been proved earlier); this answers the other question cited in the epigraph. We also prove that the existence of a rational section is equivalent to the existence of a rational W-equivariant map T- - - >G/T where T is a maximal torus of G and W the Weyl group.