Springer Undergraduate Texts in Mathematics and Technology
Arlie O. Petters Xiaoying Dong
An Introduction to Mathematical Finance with Applications
Understanding and Building Financial Intuition
Springer Undergraduate Texts in Mathematics and Technology
Series Editors:
J.M. Borwein
H. Holden
V.H. Moll
More information about this series at http://www.springer.com/series/7438
Arlie O. Petters • Xiaoying Dong
An Introduction to Mathematical Finance with Applications
Understanding and Building Financial Intuition
123
Arlie O. Petters Department of Mathematics Duke University Durham, NC, USA
Xiaoying Dong Department of Mathematics Duke University Durham, NC, USA
ISSN 18675506
Springer Undergraduate Texts in Mathematics and Technology
ISBN 9781493937813 DOI 10.1007/9781493937837
ISSN 18675514
(electronic)
ISBN 9781493937837
(eBook)
Library of Congress Control Number: 2016939449
Mathematics Subject Classiﬁcation (2010): 91Gxx
© Arlie O. Petters and Xiaoying Dong 2016 This work is subject to copyright. All rights are reserved by the Publisher, whether the whole or part of the material is concerned, speciﬁcally the rights of translation, reprinting, reuse of illustrations, recitation, broadcasting, reproduction on microﬁlms or in any other physical way, and transmission or information storage and retrieval, electronic adaptation, computer software, or by similar or dissimilar methodology now known or hereafter developed. The use of general descriptive names, registered names, trademarks, service marks, etc. in this publication does not imply, even in the absence of a speciﬁc statement, that such names are exempt from the relevant protective laws and regulations and therefore free for general use. The publisher, the authors and the editors are safe to assume that the advice and information in this book are believed to be true and accurate at the date of publication. Neither the publisher nor the authors or the editors give a warranty, express or implied, with respect to the material contained herein or for any errors or omissions that may have been made.
Printed on acidfree paper
This Springer imprint is published by Springer Nature The registered company is Springer International Publishing AG Switzerland
To my loving wife, Elizabeth Petters, for being at my side unconditionally and my child, Preston Petters, who inspires me with his intense curiosity. A.O. Petters
To my dear husband and best friend, Xin Zhou. I could not imagine to complete my part of the contribution to this book without his love and support.
X. Dong
Preface
Rationale and Aim
Given the increasing intricacies and interconnectedness of ﬁnancial ﬁrms’ ac tivities and the potential opportunities and risks to which they expose them selves and the world’s economy, the next generation of ﬁnancial engineers needs to master an extensive array of mathematical ﬁnancial models. Indeed, one of the current challenges in ﬁnance is that the complexity of modern se curities and markets has forced modelers to employ increasingly sophisticated mathematical tools to address ﬁnancial issues, creating a widening gap be tween the qualitative and quantitative approaches to ﬁnance. Our book seeks to address this gap by introducing the quantitative aspects of ﬁnance to students with either a qualitative background or no background in the subject. At a ﬁrm the traders, risk managers, etc. employ proprietary an alytical and numerical models custom made to the needs of their ﬁrm. How ever, since open access to such models is prohibited, the book instead strives to give students a fundamental understanding of key ﬁnancial ideas and tools that form the basis for building more realistic models, including those of a proprietary nature.
Distinctive Features and Beneﬁts
This book is distinct in how it emphasizes and pedagogically conveys in an accessible manner the theoretical understanding and applications of the math ematical models forming key pillars of modern ﬁnance. First, the book keeps a good balance between mathematical derivation and description for the sake of providing an adequate level of rigor and depth in mathematics and maintaining accessibility to the reader, which in turn adds ﬂexibility of material selection for the instructor (e.g., Chapter 7 may be taught earlier). Speciﬁcally, this book addresses the gap between textbooks that of
vii
viii
Preface
fer a theoretical treatment without many applications and those that simply present and apply formulas without appropriately deriving them. Indeed, the oretical understanding is incomplete without enough practice in applications, and applications are risky without a rigorous theoretical understanding. To accomplish this, the book contains numerous carefully chosen examples and exercises that reinforce a student’s conceptual understanding and develop a facility with applications. Indeed, the exercises are divided into conceptual, application, and theoretical problems that probe the material deeper. Second, beyond a few required undergraduate mathematics courses (see Prerequisites below), this book is essentially selfcontained. The large num ber of necessary ﬁnancial terminologies and concepts can be overwhelming to a student new to ﬁnance. For this reason, after introducing some central, bigpicture ﬁnancial ideas in the ﬁrst chapter, we present the ﬁnancial minu tia along the way as needed. We have tried to make the book selfcontained in this regard through thoughtfully chosen illustrative applications starting at the ground level with simple interest. We then gradually increase the difﬁculty as the book develops, ranging across compound interest, annuities, portfolio theory, capital market theory, portfolio risk measures, the role of linear factor models in portfo lio risk attribution, binomial tree models, stochastic calculus, derivatives, the martin gale approach to derivative pricing, the BlackScholesMerton model, and the Merton jumpdiffusion model. Third, the book is also useful for students preparing either for higher level study in mathematical ﬁnance or for a career in actuarial science. For example, the syllabi for the actuarial Financial Mathematics Exam (Exam 2/FM) and Models of Financial Economics Exam (Exam 3F/MFE) include many topics covered in the book.
Prerequisites
The required mathematics consists of introductory courses on multivariable calculus, probability, and linear algebra. Along the way, we introduce addi tional mathematical tools as needed—e.g., some measure theory is presented from scratch. No background in ﬁnance is assumed. As noted above, the necessary ﬁnancial concepts and tools are introduced in the text, with the ﬁrst chapter giving an overview of several common ﬁnance terminologies associated with securities and securities markets. Our book does not require computer programming. In our experience, ﬁ nance courses based on computer programming are best taken after students have developed a fundamental understanding of the theoretical architecture of ﬁnancial models.
Preface
ix
Audience
The text is aimed at advanced undergraduates and master’s degree students who are either new to ﬁnance or want a more rigorous treatment of the mathematical models used in ﬁnance. The students typically are from economics, mathemat ics, engineering, physics, and computer science. We also believe that a faculty member who is teaching ﬁnance for the ﬁrst time will ﬁnd this introduction readily manageable. Professionals working in ﬁnance who would like a refresher or even clariﬁcation on some of the the oretical and conceptual aspects of mathematical ﬁnance will beneﬁt from the text.
Scope and Guide
The chapters are organized naturally into four parts and range over the fol lowing topics:
 Part I (Chapters 1 and 2):
introduction to securities markets and the time value of money
 Part II (Chapters 3 and 4):
Markowitz portfolio theory, capital market theory, and portfolio risk measures
 Part III (Chapters 5 and 6):
modeling underlying securities using binomial trees and stochastic calculus
 Part IV (Chapters 7 and 8):
derivative securities, BSM model, and Merton jumpdiffusion model The material was tested in courses offered to upperlevel undergraduates and master’s degree students. Below are two examples of possible topics that may serve as a guide for semesterlong courses:
 Introduction to Mathematical Finance: securities markets (Chapter 1), the time value of money (Chapter 2), Markowitz portfolio theory, capital market theory, and portfolio risk measures (Chapters 3–4), binomial security pric ing (Chapter 5, omit most derivations), Itˆo’s formula and geometric Brow nian motion (Sections 6.8 and 6.9), forwards, futures, and options (Sec tions 7.2, 7.3, and 7.5), and call option pricing with applications (Sections 8.3, 8.2.2, 8.5, and 8.6.2).
 Introduction to Financial Derivatives: modeling underliers in discrete time (Sections 5.1–5.3), stochastic calculus and modeling underliers in continuous time (Section 5.4 and Chapter 6), general aspects of forwards, futures, swaps, and options, including trading strategies (Chapters 7), the BlackScholes Merton (BSM) model, BSM p.d.e. approach to pricing Europeanstyle op tions, riskneutral approach to pricing Europeanstyle options, applications to warrants, delta hedging, managing portfolio risk, and extension of the BSM model to the Merton jumpdiffusion model (Chapter 8).
x
Preface
A yearlong course on introductory mathematical ﬁnance can be based on the entire book. The book can also be used as a reference for students enrolled in a mathematical ﬁnance independent study course.
Acknowledgments
Specials thanks to the following individuals for their feedback and assistance:
Daniel Aarhus
Amir Aazami
Stanley Absher
Vibhav Agarwal
Hengjie Ai
Mitesh Amarthaluru Vlad Bouchouev Michael Brandt Esteban Chavez Rui Chen Kyuwon Choi Qian Deng Christian Drappi Zachary Freeman Tingran Gao William Grisaitis Xiaosheng Guo Zhonglin Han John Hyde Huseyin Kortmaz Baolei Li Junchi Li
Li Li
Nan Li
Qiao Li
Li
Liang
Lu Liu
Ruisi Ma
Tanya Mallavarapu
Xavier Mela
Vadim Mokhnatkin
Julia Ni
James Nolen
Vivek Oberoi
Feng Pan
Chloe Peng
Hal Press
Hui Qi
Zhaozhen Qian
Hayagreev Ramesh
Emma Rasiel
Tianhua Ren
Chelsea Richwine
Irving Salvatierra
Andrew Schretter
Yuhang Si
John Sias
Maxwell Stern
Lingran Sun
Alberto Teguia
Nicholas Tenev
Dominick Totino
Chi Trinh
Dan Turtel
Kari Vaughn
Robert Vanderbei
Kevin Wan
Chenyu Wang
David Williams
Chao Xu
Hangjun Xu
Lu Xu
Junkai Xue
Chao Yang
Jiahui Yang
Ashley Yeager
Jeong Yoo
Yanchi Yu
Yunliang Yu
Javier Zapata
Xiaodong Zhai
Biyuan Zhang
Yang Zhang
Bowen Zhao
Ruiyang Zhao
Xiaoyang Zhuang
Zilong Zou
We are also thankful to Elizabeth Loew of Springer for her support and guid ance along the entire way and to Lisa Goldberg for her valuable comments and constructive suggestions. AP is indebted to Duke University for providing the ﬁnancial support needed to hire many students who assisted with writ ing computer codes, checking calculations, etc. He is also extremely grateful to his wife, Elizabeth Petters, for her patience, love, and steadfast encouragement throughout the project. XD would like to express her gratitude to her husband Xin Zhou who saw her through this book and offered great suggestions.
Durham, NC, USA 
A.O. Petters 
Durham, NC, USA 
X. Dong 
2016
Contents
1 Preliminaries on Financial Markets 
1 

1.1 A Primer on Banks and Rates 
2 

1.1.1 Banks and the Federal Funds Rate 
2 

1.1.2 ShortTerm and LongTerm Rates and Yield Curves 
4 

1.2 A Primer on Securities Markets 
6 

1.2.1 Securities Markets Organization 
6 

1.2.2 Professional Participants in Securities Markets 
8 

1.2.3 BidAsk Spreads and Market Liquidity 
8 

1.2.4 Trading Costs 
9 

1.3 Economic Indicators That May Affect Financial Markets 
10 

2 The Time Value of Money 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
13 

2.1 Time 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
14 
2.2 Interest Rate and Return Rate 
15 

2.2.1 Interest 
Rate 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
15 

2.2.2 Required Return Rate and the RiskFree Rate 
16 

2.2.3 Total Return Rate 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
17 

2.3 Simple Interest 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
20 

2.4 Compound Interest 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
21 

2.4.1 Compounding: Nonnegative Integer Number of Periods 
22 

2.4.2 Compounding: Nonnegative Real Number of Periods 
24 

2.4.3 Fractional Compounding Versus Simple Interest 
30 

2.4.4 Continuous Compounding 
31 

2.5 Generalized Compound Interest 
31 

2.5.1 Varying Interest and Varying Compounding Periods 
31 

2.5.2 APR Versus APY 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
33 

2.5.3 Geometric Mean Return Versus Arithmetic Mean Return 
35 

2.6 The Net Present Value and Internal Rate of Return 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
38 

2.6.1 Present Value and NPV of a Sequence of Net Cash Flows . 
38 

2.6.2 The Internal Return Rate 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
41 
xi
xii
Contents
2.6.3 NPV and IRR for General Net Cash Flows 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
42 

2.7 Annuity Theory . . . 
. . 
. . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
46 
2.7.1 Future and Present Values of Simple Ordinary Annuities 
47 

2.7.2 Amortization Theory 
53 

2.7.3 Annuities with Varying Payments and Interest Rates 
56 

2.8 Applications of Annuities 
59 

2.8.1 Saving, Borrowing, and Spending 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
59 

2.8.2 Equity in a 
House . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
61 

2.8.3 Sinking Funds 
. 
. . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
62 
2.9 Applications to Stock Valuation 
63 

2.9.1 The Dividend Discount Model 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
64 

2.9.2 Present Value of Preferred and Common Stocks 
65 

2.10 Applications to Bond Valuation 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
66 

2.10.1 Bond Terminologies 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
66 

2.10.2 Bond Prices Versus Interest Rates and Yield to Maturity 
69 

2.11 Exercises . . . . . . . . . . 2.11.1 Conceptual Exercises . . . . . . . References . . . . . . . . . . . . . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
72 72 

2.11.2 Application Exercises 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
73 

2.11.3 Theoretical Exercises . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
. . 
78 81 

3 Markowitz Portfolio Theory . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
83 

3.1 Markowitz Portfolio Model: The Setup 
83 

3.1.1 Security Return Rates 
85 

3.1.2 What About Multivariate Normality of Security Return 

Rates? . . . . . . 
. . 
. . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
87 
3.1.3 Investors and the Efﬁcient Frontier 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
87 

3.1.4 The OnePeriod Assumption, Weights, and Short Selling 
88 

3.1.5 Expected Portfolio Return Rate 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
94 

3.1.6 Portfolio Risk 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
96 

3.1.7 Risks and Covariances of the Portfolio’s Securities 
96 

3.1.8 Expectation and Volatility of Portfolio Log Return 
100 

3.2 TwoSecurity Portfolio Theory 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
104 

3.2.1 Preliminaries 
. . 
. . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
105 
3.2.2 Efﬁcient Frontier of a TwoSecurity Portfolio 
107 

3.2.3 Reducing Risk Through Diversiﬁcation 
114 

3.3 Efﬁcient Frontier for N Securities with Short Selling 
117 

3.3.1 NSecurity Portfolio Quantities in Matrix Notation 
118 

3.3.2 Derivation of the NSecurity Efﬁcient Frontier 
120 

3.4 NSecurity Efﬁcient Frontier Without Short Selling 
126 

3.5 The Mutual Fund Theorem 
128 

3.5.1 The Global MinimumVariance Portfolio 
128 

3.5.2 The Diversiﬁed Portfolio 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
130 
Contents
xiii
3.5.3 The Mutual Fund Theorem 
130 

3.6 Investor Utility Function 
131 

3.6.1 Utility Functions and Expected Utility Maximization 
131 

3.6.2 RiskAverse, RiskNeutral, and RiskSeeking Investors 
133 

3.7 Diversiﬁcation and Randomly Selected Securities 
138 

3.7.1 Mean Portfolio Variance and the Uniform Dirichlet 

Distribution . . . . . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
138 
3.7.2 Mean Portfolio Variance using the NASDAQ 
142 

3.8 Exercises . . . . . . . . . . 3.8.1 Conceptual Exercises . . . . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
143 143 
3.8.2 Application Exercises 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
144 

. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
146 

4 3.8.3 Theoretical Exercises . . References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Capital Market Theory and Portfolio Risk Measures 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
149 151 

4.1 The Capital Market Theory 
152 

4.1.1 The Capital Market Line (CML) 
153 

4.1.2 Expected Return and Risk of the Market Portfolio 
157 

4.1.3 The Capital Asset Pricing Model (CAPM) 
158 

4.1.4 The Security Market Line (SML) 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
163 

4.1.5 CAPM Security Risk Decomposition 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
164 

4.2 Portfolio Risk Measures 
165 

4.2.1 The Sharpe Ratio . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
166 
4.2.2 The Sortino Ratio . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
170 
4.2.3 The Maximum Drawdown 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
172 

4.2.4 Quantile Functions 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
174 

4.2.5 ValueatRisk . . . . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
177 
4.2.6 Conditional ValueatRisk 
182 

4.2.7 Coherent Risk Measures 
183 

4.3 Introduction to Linear Factor Models 
185 

4.3.1 Deﬁnition and Intuition 
186 

4.3.2 Portfolio Variance Decomposition 
189 

4.3.3 Factor Categorization 
191 

4.3.4 Alpha and Beta . . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
192 
4.3.5 CAPM Beta Versus Linear Factor Beta 
195 

4.3.6 FamaFrench ThreeFactor Model 
196 

4.4 Exercises . . . . . . . . . . 4.4.1 Conceptual Exercises . . . . . . . References . . . . . . . . . . . . . . . . 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
. 
199 199 
4.4.2 Application Exercises 
. 
. 
. 
. 
. 
. 
. 
. 
. 

Molto più che documenti.
Scopri tutto ciò che Scribd ha da offrire, inclusi libri e audiolibri dei maggiori editori.
Annulla in qualsiasi momento.