QuestionQuestion

Transcribed TextTranscribed Text

1. Miscellaneous: (a) Find the column space, row space, null space and left nullspace of the matrix 2 6 4 A = . (b) Consider the three vectors x¹ = x² = (0,1,0)T, x3 = Does the set A = {x¹,x²,x³} form an orthonormal basis of R3? 2. Trading model: As in class, consider a model of a financial market with N assets and M possible outcomes. The payoff of asset n at time t = 1 if outcome m occurs is Dnm, where D € R N x M , and its price at time zero is so, where s° A portfolio of stocks is represented by a vector h € RN, where hn represents the number of shares owned of asset n. We also define the augmented matrix, D = [-so, D], the reachable payoff space R = {DTh : h € RN}, and the augmented payoff space R = {DTh : h € RN} Consider the market with -2 1 1 D = 3 1 2 - 16 8 9 (a) What is the t = 0 price of the portfolio h = (1,1,0)T in this market? (b) Is this market complete? (c) Does the law of one price (LOOP) hold in this market? 3. Law of one price: In class, we have discussed the law of one price (LOOP), which formalizes the very intuitive "no free lunch" idea that two portfolios that generate the same payoffs should have the same price in a well functioning market. We have also discussed the relation between this rule and the existence of a state price vector. Recall that a state-price vector, 4 € RM, where M is the number of possible outcomes, is such that hTs° = hTD16 for all h € RN. The relation between the LOOP and the existence of a state price vector is one version of what is known as the fundamental theorem of asset pricing, and has two parts: Part 1: The LOOP holds if and only if there exists a state price vector. Part 2: In a market in which the LOOP holds, the state price vector is unique if and only if the market is complete. A mathematical way of stating that the LOOP holds is that for all h € RN: = = (a) Use your knowledge from linear algebra to prove part 1 of the theorem. (b) Use your knowledge from linear algebra to prove part 2 of the theorem.

Solution PreviewSolution Preview

These solutions may offer step-by-step problem-solving explanations or good writing examples that include modern styles of formatting and construction of bibliographies out of text citations and references. Students may use these solutions for personal skill-building and practice. Unethical use is strictly forbidden.

    By purchasing this solution you'll be able to access the following files:
    Solution.pdf.

    $53.00
    for this solution

    or FREE if you
    register a new account!

    PayPal, G Pay, ApplePay, Amazon Pay, and all major credit cards accepted.

    Find A Tutor

    View available Mathematical Finance Tutors

    Get College Homework Help.

    Are you sure you don't want to upload any files?

    Fast tutor response requires as much info as possible.

    Decision:
    Upload a file
    Continue without uploading

    SUBMIT YOUR HOMEWORK
    We couldn't find that subject.
    Please select the best match from the list below.

    We'll send you an email right away. If it's not in your inbox, check your spam folder.

    • 1
    • 2
    • 3
    Live Chats