CALIBRATION OF LÉVY PROCESSES USING OPTIMAL CONTROL OF KOLMOGOROV EQUATIONS WITH PERIODIC BOUNDARY CONDITIONS

We present an optimal control approach to the problem of model calibration for Lévy processes based on an non-parametric estimation procedure of the measure. The optimization problem is related to the maximum likelihood theory of sieves [25] and is formulated with the Fokker-Planck-Kolmogorov approach [3, 4]. We use a generic spline discretization of the Lévy jump measure and select an adequate size of the spline basis using the Akaike Information Criterion (AIC) [12]. The first order necessary optimality conditions are derived based on the Lagrange multiplier technique in a functional space. The resulting Partial Integral-Differential Equations (PIDE) are discretized, numerically solved using a scheme composed of Chang-Cooper, BDF2 and direct quadrature methods, jointly to a non-linear conjugate gradient method. For the numerical solver of the Kolmogorov's forward equation we prove conditions for non-negativity and stability in the L1 norm of the discrete solution.