Actuarial Risk Measures for Financial Derivative Pricing
15 Pages Posted: 5 Mar 2006
Date Written: June 19, 2006
We present an axiomatic characterization of price measures that are superadditive and comonotonic additive for normally distributed random variables. The price representation derived involves a probability measure transform that is closely related to the Esscher transform, and we call it the Esscher-Girsanov transform. In a financial market in which the primary asset price is represented by a stochastic differential equation with respect to Brownian motion, the price mechanism based on the Esscher-Girsanov transform can generate approximate-arbitrage-free financial derivative prices.
Keywords: Derivative pricing, Stochastic ordering, Esscher transform, Girsanov's Theorem, Comonotonicity, Equivalent martingale measure, Feynman-Kac integration
JEL Classification: D81, G12, G13
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