A financial market model

Research Report FMRR98-002

A financial market model

Eckhard platen

Abstract: Despite many attempts, the consistent and global modelling of financial markets remains an open problem. In particular it remains a challenge to find a simple and tractable economic and probabilistic approach to market modelling. This paper attempts to highlight fundamental properties that a market model should have. Assuming these properties, which include the principle of market risk minimisation, it is possible to establish a corresponding interactive stochastic market dynamics that involves a minimal number of factors. These factors include the trading volume of assets and the average trading value of all assets. Several interesting properties related to stochastic volatility, market index and interest rate dynamics can be derived. Empirical evidence will be given that supports these findings.

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