Optimal Execution Under Stochastic Volatility and Liquidity
Princeton University - Department of Operations Research & Financial Engineering (ORFE)
March 15, 2013
We study the problem of optimally liquidating a financial position in a discrete-time model with stochastic volatility and liquidity. We consider the three cases where the objective is to minimize the expectation, mean-variance and expected exponential of the implementation cost. In the first case, the optimal solution can be fully characterized by a forward-backward system of stochastic equations depending on conditional expectations of future liquidity. In the other two cases we derive Bellman equations from which the optimal solutions can be obtained numerically by discretizing the control space. In all three cases we compute optimal strategies for different simulated realizations of prices, volatility and liquidity and compare the outcomes to the ones produced by the deterministic strategy of Almgren and Chriss.
Number of Pages in PDF File: 16
Keywords: Optimal execution, implementation cost, discrete-time stochastic control, Bellman equation, stochastic volatility, stochastic liquidity
JEL Classification: G1working papers series
Date posted: March 16, 2013
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