Mark Broadie

Optimal Replication of Contingent Claims Under Portfolio Constraints

Coauthor(s): J. Cvitanic, M. Soner.

Abstract:
We determine the minimum cost of super-replicating a nonnegative contingent claim when there are convex constraints on portfolio weights. We show that the optimal cost with constraints is equal to the price of a related claim without constraints. The related claim is a dominating claim, that is, a claim whose payoffs are increased in an appropriate way relative to the original claim. The results hold for a variety of options, including some path-dependent options. Constraints on the gamma of the replicating portfolio, constraints on the portfolio amounts, and constraints on the number of shares are also considered.

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