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Optimal closing of a momentum trade
Uppsala University, Disciplinary Domain of Science and Technology, Mathematics and Computer Science, Department of Mathematics.
Uppsala University, Disciplinary Domain of Science and Technology, Mathematics and Computer Science, Department of Mathematics.
2013 (English)In: Journal of Applied Probability, ISSN 0021-9002, E-ISSN 1475-6072, Vol. 50, no 2, 374-387 p.Article in journal (Refereed) Published
Abstract [en]

There is an extensive academic literature that documents that stocks which have performed well in the past often continue to perform well over some holding period-so-called momentum. We study the optimal timing for an asset sale for an agent with a long position in a momentum trade. The asset price is modelled as a geometric Brownian motion with a drift that initially exceeds the discount rate, but with the opposite relation after an unobservable and exponentially distributed time. The problem of optimal selling of the asset is then formulated as an optimal stopping problem under incomplete information. Based on the observations of the asset, the agent wants to detect the unobservable change point as accurately as possible. Using filtering techniques and stochastic analysis, we reduce the problem to a one-dimensional optimal stopping problem, which we solve explicitly. We also show that the optimal boundary at which the investor should liquidate the trade depends monotonically on the model parameters.

Place, publisher, year, edition, pages
2013. Vol. 50, no 2, 374-387 p.
Keyword [en]
Optimal stopping, momentum, trading, quickest detection problem for Brownian motion
National Category
Mathematics
Identifiers
URN: urn:nbn:se:uu:diva-206758DOI: 10.1239/jap/1371648947ISI: 000322206300005OAI: oai:DiVA.org:uu-206758DiVA: diva2:645400
Available from: 2013-09-04 Created: 2013-09-04 Last updated: 2017-12-06Bibliographically approved

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Ekström, ErikLindberg, Carl

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