RiskIArbitrage Strategies: A New Concept for AssetLiability Management, Optimal Fund Design and Optimal Portfolio Selection in a Dynamic, Continuous-Time Framework Part 11: Securities and Derivatives Markets

Assefiiability management, optimal fund design and optimal portfolio selection have been key issues of interest to the (re)insurance and investment banking communities, respectively, for some years especially in the design of advanced risk-transfer solutions for clients in the Fortune 500 group of companies. AFIR 1996 publications dealing with these topics were, e.g., Optimal Fund Design for Investors with Holding Constraints (Vol. I , p. 245), Optimal Porlfolio and Optimal Trading in a Dynamic Continuous Time Framework (Vol. I , p. 275), Mean-Variance Portfolio Selection under Porlfolio Insurance (Vol. I , p. 347), Baseline for Exchange Rate Risks of an International Reinsurer (Vol. I . , p. 399, Optimizing Investment and Contribution Policies of a Defined Benefit Pension Fund (Vol. I , p. 593), Continuous-Time Pension Fund Modelling (Vol. I , p. 609), Linear Approach for Solving Large-Scale Porlfolio Optimization Problems in a Lognormal Market (Vol. 11, p. 1019), Options as an Asset Class (Vol. 11, p. 1413), Optioned Porlfolios: The Trade-08 between Expected and Guaranteed Returns (Vol. 11, p. 1443), Optimal Optioned Porlfolios with Confidence Limits on Shorlfall Constraints (Vol. 11, p. 1497), among others. Taking up some of the new ideas and approaches in this literature we introduce the concept of limited risk arbitrage investment management in a general dzyusion type securities and derivatives market and characterize the corresponding trading and portfolio management strategies (risk/arbitrage strategies) as the solutions of a stochastic control problem with constraints on instantaneous investment risk, future portfolio risk dynamics, portfolio time decay dynamics and portfolio value appreciation dynamics. Part 11: Securities and Derivatives Markets shows how an efficient allocation of risk can be achieved by investing in a portfolio of securities and non-redundant (i.e., securities market completing) financial options. Kevwords. Limited risk arbitrage investment management, instantaneous investment risk, future risk dynamics, time decay dynamics, value appreciation dynamics, risklarbitrage strategies, strategy space transformation, market parametrization, maximum principle, convex duality, Markovian characterization, market prices of risk, completion premium, target wealth, required wealth, transformation premium, canonical solution, CS (constraint set) projection, DC (drawdown control) transform.