D-III Keuangan dan Perbankan
Universitas Muhammadiyah Malang
D-III Keuangan dan Perbankan
Universitas Muhammadiyah Malang

Buku Principles of Financial Economics

Contents
I Equilibrium and Arbitrage 1
1 Equilibrium in Security Markets 3
1.1 Introduction
1.2 Security Markets
1.3 Agents
1.4 Consumption and Portfolio Choice
1.5 First-Order Conditions
1.6 Left and Right Inverses of X
1.7 General Equilibrium
1.8 Existence and Uniqueness of Equilibrium
1.9 Representative Agent Models .
2 Linear Pricing 13
2.1 Introduction
2.2 The Law of One Price
2.3 The Payo® Pricing Functional .
2.4 Linear Equilibrium Pricing
2.5 State Prices in Complete Markets
2.6 Recasting the Optimization Problem
3 Arbitrage and Positive Pricing
3.1 Introduction
3.2 Arbitrage and Strong Arbitrage
3.3 A Diagrammatic Representation
3.4 Positivity of the Payo® Pricing Functional
3.5 Positive State Prices
3.6 Arbitrage and Optimal Portfolios
3.7 Positive Equilibrium Pricing .
4 Portfolio Restrictions
4.1 Introduction
4.2 Short Sales Restrictions .
4.3 Portfolio Choice under Short Sales Restrictions
4.4 The Law of One Price
4.5 Limited and Unlimited Arbitrage
4.6 Diagrammatic Representation
4.7 Bid-Ask Spreads
4.8 Bid-Ask Spreads in Equilibrium

II Valuation
5 Valuation
5.1 Introduction
5.2 The Fundamental Theorem of Finance
5.3 Bounds on the Values of Contingent Claims
5.4 The Extension
5.5 Uniqueness of the Valuation Functional
6 State Prices and Risk-Neutral Probabilities
6.1 Introduction .
6.2 State Prices
6.3 Farkas-Stiemke Lemma
6.4 Diagrammatic Representation
6.5 State Prices and Value Bounds
6.6 Risk-Free Payo®s
6.7 Risk-Neutral Probabilities
7 Valuation under Portfolio Restrictions
7.1 Introduction
7.2 Payo® Pricing under Short Sales Restrictions .
7.3 State Prices under Short Sales Restrictions
7.4 Diagrammatic Representation
7.5 Bid-Ask Spreads

III Risk
8 Expected Utility
8.1 Introduction
8.2 Expected Utility
8.3 Von Neumann-Morgenstern
8.4 Savage .
8.5 Axiomatization of State-Dependent Expected Utility
8.6 Axiomatization of Expected Utility
8.7 Non-Expected Utility
8.8 Expected Utility with Two-Date Consumption
9 Risk Aversion
9.1 Introduction
9.2 Risk Aversion and Risk Neutrality
9.3 Risk Aversion and Concavity
9.4 Arrow-Pratt Measures of Absolute Risk Aversion
9.5 Risk Compensation
9.6 The Pratt Theorem
9.7 Decreasing, Constant and Increasing Risk Aversion
9.8 Relative Risk Aversion .
9.9 Utility Functions with Linear Risk Tolerance .
9.10 Risk Aversion with Two-Date Consumption

 Valuation
5.1 Introduction
5.2 The Fundamental Theorem of Finance
5.3 Bounds on the Values of Contingent Claims
5.4 The Extension .
5.5 Uniqueness of the Valuation Functional

State Prices and Risk-Neutral Probabilities
6.1 Introduction
6.2 State Prices
6.3 Farkas-Stiemke Lemma
6.4 Diagrammatic Representation
6.5 State Prices and Value Bounds .
6.6 Risk-Free Payo®s
6.7 Risk-Neutral Probabilities .

Valuation under Portfolio Restrictions
7.1 Introduction .
7.2 Payo® Pricing under Short Sales Restrictions
7.3 State Prices under Short Sales Restrictions .
7.4 Diagrammatic Representation .
7.5 Bid-Ask Spreads

III Risk
8 Expected Utility 73
8.1 Introduction .
8.2 Expected Utility
8.3 Von Neumann-Morgenstern .
8.4 Savage .
8.5 Axiomatization of State-Dependent Expected Utility
8.6 Axiomatization of Expected Utility
8.7 Non-Expected Utility .
8.8 Expected Utility with Two-Date Consumption
9 Risk Aversion
9.1 Introduction .
9.2 Risk Aversion and Risk Neutrality
9.3 Risk Aversion and Concavity .
9.4 Arrow-Pratt Measures of Absolute Risk Aversion .
9.5 Risk Compensation
9.6 The Pratt Theorem .
9.7 Decreasing, Constant and Increasing Risk Aversion
9.8 Relative Risk Aversion
9.9 Utility Functions with Linear Risk Tolerance
9.10 Risk Aversion with Two-Date Consumption

Risk
10.1 Introduction
10.2 Greater Risk
10.3 Uncorrelatedness, Mean-Independence and Independence
10.4 A Property of Mean-Independence
10.5 Risk and Risk Aversion
10.6 Greater Risk and Variance
10.7 A Characterization of Greater Risk .

IV Optimal Portfolios
11 Optimal Portfolios with One Risky Security
11.1 Introduction
11.2 Portfolio Choice and Wealth
11.3 Optimal Portfolios with One Risky Security .
11.4 Risk Premium and Optimal Portfolios
11.5 Optimal Portfolios When the Risk Premium Is Small .

Comparative Statics of Optimal Portfolios
12.1 Introduction .
12.2 Wealth . .
12.3 Expected Return .
12.4 Risk . .
12.5 Optimal Portfolios with Two-Date Consumption .
13 Optimal Portfolios with Several Risky Securities
13.1 Introduction .
13.2 Optimal Portfolios .
13.3 Risk-Return Tradeo® . .
13.4 Optimal Portfolios under Fair Pricing .
13.5 Risk Premia and Optimal Portfolios .
13.6 Optimal Portfolios under Linear Risk Tolerance
13.7 Optimal Portfolios with Two-Date Consumption

V Equilibrium Prices and Allocations
14 Consumption-Based Security Pricing
14.1 Introduction
14.2 Risk-Free Return in Equilibrium
14.3 Expected Returns in Equilibrium
14.4 Volatility of Marginal Rates of Substitution
14.5 A First Pass at the CAPM
15 Complete Markets and Pareto-Optimal Allocations of Risk
15.1 Introduction
15.2 Pareto-Optimal Allocations
15.3 Pareto-Optimal Equilibria in Complete Markets
15.4 Complete Markets and Options
15.5 Pareto-Optimal Allocations under Expected Utility
15.6 Pareto-Optimal Allocations under Linear Risk Tolerance
10 Risk
10.1 Introduction
10.2 Greater Risk
10.3 Uncorrelatedness, Mean-Independence and Independence
10.4 A Property of Mean-Independence
10.5 Risk and Risk Aversion
10.6 Greater Risk and Variance
10.7 A Characterization of Greater Risk

IV Optimal Portfolios
11 Optimal Portfolios with One Risky Security
11.1 Introduction
11.2 Portfolio Choice and Wealth
11.3 Optimal Portfolios with One Risky Security
11.4 Risk Premium and Optimal Portfolios
11.5 Optimal Portfolios When the Risk Premium Is Small
12 Comparative Statics of Optimal Portfolios
12.1 Introduction
12.2 Wealth
12.3 Expected Return
12.4 Risk
12.5 Optimal Portfolios with Two-Date Consumption
13 Optimal Portfolios with Several Risky Securities
13.1 Introduction
13.2 Optimal Portfolios
13.3 Risk-Return Tradeo
13.4 Optimal Portfolios under Fair Pricing
13.5 Risk Premia and Optimal Portfolios
13.6 Optimal Portfolios under Linear Risk Tolerance
13.7 Optimal Portfolios with Two-Date Consumption
V Equilibrium Prices and Allocations
14 Consumption-Based Security Pricing
14.1 Introduction
14.2 Risk-Free Return in Equilibrium
14.3 Expected Returns in Equilibrium
14.4 Volatility of Marginal Rates of Substitution
14.5 A First Pass at the CAPM
15 Complete Markets and Pareto-Optimal Allocations of Risk
15.1 Introduction
15.2 Pareto-Optimal Allocations
15.3 Pareto-Optimal Equilibria in Complete Markets
15.4 Complete Markets and Options
15.5 Pareto-Optimal Allocations under Expected Utility
15.6 Pareto-Optimal Allocations under Linear Risk Tolerance

II Valuation
5 Valuation
5.1 Introduction
5.2 The Fundamental Theorem of Finance
5.3 Bounds on the Values of Contingent Claims
5.4 The Extension
5.5 Uniqueness of the Valuation Functional
6 State Prices and Risk-Neutral Probabilities
6.1 Introduction
6.2 State Prices
6.3 Farkas-Stiemke Lemma
6.4 Diagrammatic Representation
6.5 State Prices and Value Bounds
6.6 Risk-Free Payo®s
6.7 Risk-Neutral Probabilities
7 Valuation under Portfolio Restrictions
7.1 Introduction
7.2 Payo® Pricing under Short Sales Restrictions
7.3 State Prices under Short Sales Restrictions
7.4 Diagrammatic Representation
7.5 Bid-Ask Spreads

III Risk
8 Expected Utility
8.1 Introduction
8.2 Expected Utility
8.3 Von Neumann-Morgenstern
8.4 Savage
8.5 Axiomatization of State-Dependent Expected Utility
8.6 Axiomatization of Expected Utility
8.7 Non-Expected Utility
8.8 Expected Utility with Two-Date Consumption
9 Risk Aversion
9.1 Introduction
9.2 Risk Aversion and Risk Neutrality
9.3 Risk Aversion and Concavity
9.4 Arrow-Pratt Measures of Absolute Risk Aversion
9.5 Risk Compensation
9.6 The Pratt Theorem
9.7 Decreasing, Constant and Increasing Risk Aversion
9.8 Relative Risk Aversion
9.9 Utility Functions with Linear Risk Tolerance
9.10 Risk Aversion with Two-Date Consumption

VII Multidate Security Markets
21 Equilibrium in Multidate Security Markets
21.1 Introduction
21.2 Uncertainty and Information
21.3 Multidate Security Markets
21.4 The Asset Span
21.5 Agents
21.6 Portfolio Choice and the First-Order Conditions
21.7 General Equilibrium
22 Multidate Arbitrage and Positivity
22.1 Introduction
22.2 Law of One Price and Linearity
22.3 Arbitrage and Positive Pricing
22.4 One-Period Arbitrage
22.5 Positive Equilibrium Pricing
23 Dynamically Complete Markets
23.1 Introduction
23.2 Dynamically Complete Markets
23.3 Binomial Security Markets
23.4 Event Prices in Dynamically Complete Markets
23.5 Event Prices in Binomial Security Markets
23.6 Equilibrium in Dynamically Complete Markets
23.7 Pareto-Optimal Equilibria
24 Valuation
24.1 Introduction
24.2 The Fundamental Theorem of Finance
24.3 Uniqueness of the Valuation Functional

VIII Martingale Property of Security Prices
25 Event Prices, Risk-Neutral Probabilities and the Pricing Kernel
25.1 Introduction
25.2 Event Prices
25.3 Risk-Free Return and Discount Factors
25.4 Risk-Neutral Probabilities
25.5 Expected Returns under Risk-Neutral Probabilities
25.6 Risk-Neutral Valuation
25.7 Value Bounds
25.8 The Pricing Kernel
26 Security Gains As Martingales
26.1 Introduction
26.2 Gain and Discounted Gain
26.3 Discounted Gains as Martingales
26.4 Gains as Martingales
27 Conditional Consumption-Based Security Pricing
27.1 Introduction
27.2 Expected Utility
27.3 Risk Aversion
27.4 Conditional Covariance and Variance
27.5 Conditional Consumption-Based Security Pricing
27.6 Security Pricing under Time Separability
27.7 Volatility of Intertemporal Marginal Rates of Substitution
28 Conditional Beta Pricing and the CAPM 265
28.1 Introduction
28.2 Two-Date Security Markets at a Date-t Event
28.3 Conditional Beta Pricing
28.4 Conditional CAPM with Quadratic Utilities
28.5 Multidate Market Return
28.6 Conditional CAPM with Incomplete Markets

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