BSc Actuarial Science and Mathematics

Year of entry: 2022

Course unit details:
Martingales with Applications to Finance

Unit code MATH37002
Credit rating 10
Unit level Level 3
Teaching period(s) Semester 2
Offered by Department of Mathematics
Available as a free choice unit? No

Overview

An introduction to a circle of ideas and fundamental results of the theory of martingales, which play a vital role in stochastic calculus and in the modern theory of finance.

Pre/co-requisites

Unit title Unit code Requirement type Description
Probability 2 MATH20701 Pre-Requisite Compulsory
Please note

Students are not permitted to take more than one of MATH37001 or MATH47201 for credit in the same or different undergraduate year.

 

Students are not permitted to take MATH47201 and MATH67201 for credit in an undergraduate programme and then a postgraduate programme.

 

Note that MATH67201 is an example of an enhanced level 3 module as it includes all the material from MATH37001

 

When a student has taken level 3 modules which are enhanced to produce level 6 modules on an MSc programme taken within the School of Mathematics, then they are limited to a maximum of two such modules (with no alternative arrangements available otherwise)

 

 

Aims

To provide a firm grasp of a range of basic concepts and fundamental results in the theory of martingales and to give some simple applications in the rapid developing area of financial mathematics.

Learning outcomes

On successful completion of this course unit students will be able to:

  • compute integrals of simple random variables with respect to a probability measure and apply the dominated, monotone convergence theorems;
  • use the computational rules of conditional expectation and prove that a given stochastic process is a martingale;
  • apply Doob Optional Sampling Theorem to calculate interesting probabilities concerning some practical problems, e.g. the gambler ruin problem;
  • answer simple questions about self-financing portfolios and complete markets;
  • determine when a financial market is arbitrage-free;
  • find out a replicating strategy for a financial claim;
  • calculate the fair price of a financial claim in a financial market.

Syllabus

  • Probability spaces, events, Ï'-fields, probability measures and random variables. Integration with respect to a probability measure. Convergence theorems (dominated, monotone and Fatou). [5]
  • Conditional expectations. Fair games and martingales, submartingales and supermartingales. Doob decomposition theorem. Stopping times and the optional sampling theorem. The upcrossing inequality and the martingale convergence theorem. The Doob maximal inequality and the martingale modification theorem. [13]
  • Applications. Discrete time random models in financial markets. Price processes, self-financing portfolio and value processes. Arbitrage opportunities and equivalent martingale measures. Completeness of the markets. Options and option pricing. [6]

Assessment methods

Examination: weighting 100%

Feedback methods

Feedback tutorials will provide an opportunity for students' work to be discussed and provide feedback on their understanding.  Coursework or in-class tests (where applicable) also provide an opportunity for students to receive feedback.  Students can also get feedback on their understanding directly from the lecturer, for example during the lecturer's office hour.
 

Recommended reading

Further Reading:   O. Kallenberg, Foundations of Modern Probability, Springer-Verlag, 2001. 
Essential:   N. H. Bingham and R. Kiesel, Risk-Neutral Valuation, Springer-Verlag, 1998. 
Recommended:   D. Williams, Probability with Martingales, Cambridge Univ. Press, 1991. 
Essential:  A. N. Shiryaev, Probability, Springer-Verlag, 1996.

Study hours

Scheduled activity hours
Lectures 12
Tutorials 12
Independent study hours
Independent study 76

Teaching staff

Staff member Role
Huy Chau Unit coordinator

Additional notes

The independent study hours will normally comprise the following. During each week of the taught part of the semester:
 
•         You will normally have approximately 60-75 minutes of video content. Normally you would spend approximately 2-2.5 hrs per week studying this content independently
•         You will normally have exercise or problem sheets, on which you might spend approximately 1.5hrs per week
•         There may be other tasks assigned to you on Blackboard, for example short quizzes or short-answer formative exercises
•         In some weeks you may be preparing coursework or revising for mid-semester tests
 
Together with the timetabled classes, you should be spending approximately 6 hours per week on this course unit.
The remaining independent study time comprises revision for and taking the end-of-semester assessment.
 
The above times are indicative only and may vary depending on the week and the course unit. More information can be found on the course unit’s Blackboard page.

Return to course details