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Utility maximization under endogenous pricing

Published 8 May 2020 in q-fin.MF, math.OC, and math.PR | (2005.04312v4)

Abstract: We study the expected utility maximization problem of a large investor who is allowed to make transactions on tradable assets in an incomplete financial market with endogenous permanent market impacts. The asset prices are assumed to follow a nonlinear price curve quoted in the market as the utility indifference curve of a representative liquidity supplier. We show that optimality can be fully characterized via a system of coupled forward-backward stochastic differential equations (FBSDEs) which corresponds to a non-linear backward stochastic partial differential equation (BSPDE). We show existence of solutions to the optimal investment problem and the FBSDEs in the case where the driver function of the representative market maker grows at least quadratically or the utility function of the large investor falls faster than quadratically or is exponential. Furthermore, we derive smoothness results for the existence of solutions of BSPDEs. Examples are provided when the market is complete or the utility function is exponential.

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Authors (2)

  1. Thai Nguyen 
  2. Mitja Stadje 

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