Co-monotonicity of optimal investments and the design of structured financial products |
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Authors: | Marc Oliver Rieger |
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Institution: | (1) College of Business Administration, Ajou University, Woncheon-dong, Yeongtong-Gu, Suwon, Kyunggi, 443-749, South Korea;(2) Division of Humanities and Social Sciences, POSTECH, Pohang, South Korea;(3) Department of Economics, University of Illinois at Urbana Champaign, 330 Wohlers Hall, 1206 S. Sixth Street, Champaign, IL 61820, USA |
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Abstract: | We prove that, under very weak conditions, optimal financial products on complete markets are co-monotone with the reversed
state price density. Optimality is meant in the sense of the maximization of an arbitrary preference model, e.g., expected
utility theory or prospect theory. The proof is based on a result from transport theory. We apply the general result to specific
situations, in particular the case of a market described by the Capital Asset Pricing Model or the Black–Scholes model, where
we derive a generalization of the two-fund-separation theorem and give an extension to APT factor models and structured products
with several underlyings. We use our results to derive a new approach to optimization in wealth management, based on a direct
optimization of the return distribution of the portfolio. In particular, we show that optimal products can (essentially) be
written as monotonic functions of the market return. We provide existence and nonexistence results for optimal products in
this framework. Finally we apply our results to the study of bonus certificates, show that they are not optimal, and construct
a cheaper product yielding the same return distribution. |
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