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Journal of Statistical Physics

, Volume 167, Issue 3–4, pp 878–891 | Cite as

First-Passage-Time Distribution for Variable-Diffusion Processes

  • Liberty Barney
  • Gemunu H. Gunaratne
Article
  • 166 Downloads

Abstract

First-passage-time distribution, which presents the likelihood of a stock reaching a pre-specified price at a given time, is useful in establishing the value of financial instruments and in designing trading strategies. First-passage-time distribution for Wiener processes has a single peak, while that for stocks exhibits a notable second peak within a trading day. This feature has only been discussed sporadically—often dismissed as due to insufficient/incorrect data or circumvented by conversion to tick time—and to the best of our knowledge has not been explained in terms of the underlying stochastic process. It was shown previously that intra-day variations in the market can be modeled by a stochastic process containing two variable-diffusion processes (Hua et al. in, Physica A 419:221–233, 2015). We show here that the first-passage-time distribution of this two-stage variable-diffusion model does exhibit a behavior similar to the empirical observation. In addition, we find that an extended model incorporating overnight price fluctuations exhibits intra- and inter-day behavior similar to those of empirical first-passage-time distributions.

Keywords

Stochastic processes First-passage-time distributions Investment horizon 

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Copyright information

© Springer Science+Business Media New York 2017

Authors and Affiliations

  1. 1.Department of PhysicsUniversity of HoustonHoustonUSA

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