Derivatives in Portfolio Management

Question 1

What assumption has to be made for derivatives to be relevant in ptf mgmt?

Answer 1

incomplete markets. Focus of Liu and Pan: presence of stochastic volatility and price jumps

Question 2

Liu and Pan risk factors

Answer 2

1) diffusive price shocks
2) price jumps
3) volatility risk

-> stocks and bonds only cannot provide independent exposure to e.g. volatility (ATM straddle) or jump risk (deep OTM put)

Question 3

Assets and Liu and pan

Answer 3

stock, rf-asset, two derivatives

Question 4

Difference btw investor with access to invesment in jump risk

Answer 4

investor without access is more conservative (improvement most prominent for less risk averse investors)