Mean-Variance Pricing Model

In this and the next chapter we will illustrate the applications of probability concepts to the field of mathematical finance, starting with the concept of sample space, all the way to stochastic processes including martingales. The present chapter examplifies “one-period” models, where the analysis is based on random variables evaluated at a specific time. The next chapter will address time-dependent (“multiperiod”) models, with analysis based on stochastic processes. The two chapters differ in their financial perspectives: the first is basic to the concept of equilibrium pricing, the next describes the application of the arbitrage-free pricing argument.