Investment Science

Investment Science

Product ID: 32742

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Author: David G Luenberger
Publisher: Oxford University Press
Year: 1998
Language: English
Pages: 494
ISBN/UPC (if available): 0-19-510809-4


Fueled in part by some extraordinary theoretical developments in finance, an explosive growth of information and computing technology, and the global expansion of investment activity, investment theory currently commands a high level of intellectual attention. Recent developments in the field are being infused into university classrooms, financial service organizations, business ventures, and into the awareness of many individual investors.

Modern investment theory using the language of mathematics is now an essential aspect of academic and practitioner training.
Representing a breakthrough in the organization of finance topics,Investment Science will be an indispensable tool in teaching modern investment theory. It presents sound fundamentals and shows how real problems can be solved with modern, yet simple, methods.

David Luenberger gives thorough yet highly accessible mathematical coverage of standard and recent topics of introductory investments: fixed-income securities, modern portfolio theory and capital asset pricing theory, derivatives (futures, options, and swaps), and innovations in optimal portfolio growth and valuation of multiperiod risky investments.

Throughout the book, he uses mathematics to present essential ideas of investments and their applications in business practice. The creative use of binomial lattices to formulate and solve a wide variety of important finance problems is a special feature of the book.

In moving from fixed-income securities to derivatives, Luenberger increases naturally the level of mathematical sophistication, but never goes beyond algebra, elementary statistics/probability, and calculus. He includes appendices on probability and calculus at the end of the book for student reference. Creative examples and end-of-chapter exercises are also included to provide additional applications of principles given in the text.

Ideal for investment or investment management courses in finance, engineering economics, operations research, and management science departments, Investment Science has been successfully class-tested at Boston University, Stanford University, and the University of Strathclyde, Scotland, and used in several firms where knowledge of investment principles is essential.

Executives, managers, financial analysts, and project engineers responsible for evaluation and structuring of investments will also find the book beneficial. The methods described are useful in almost every field, including high-technology, utilities, financial service organizations, and manufacturing companies.


1.1. Cash Flows
1.2. Investments and Markets
1.3. Typical Investment Problems
1.4. Organization of the Book
I. Deterministic Cash Flow Streams
2. The Basic Theory of Interest
2.1. Principal and Interest
2.2. Present Value
2.3. Present and Future Values of Streams
2.4. Internal Rate of Return
2.5. Evaluation Criteria
2.6. Applications and Extensions
2.7. Summary
2.8. Exercises
3. Fixed-Income Securities
3.1. The Market for Future Cash
3.2. Value Formulas
3.3. Bond Details
3.4. Yield
3.5. Duration
3.6. Immunization
3.7. Convexity
3.8. Summary
3.9. Exercises
4. The Term Structure of Interest Rates
4.1. The Yield Curve
4.2. The Term Structure
4.3. Forward Rates
4.4. Term Structure Explanations
4.5. Expectation Dynamics
4.6. Running Present Value
4.7. Floating Rate Bonds
4.8. Duration
4.9. Immunization
4.10. Summary
4.11. Exercises
5. Applied Interest Rate Analysis
5.1. Capital Budgeting
5.2. Optimal Portfolios
5.3. Dynamic Cash Flow Processes
5.4. Optimal Management
5.5. The Harmony Theorem
5.6. Valuation of a Firm
5.7. Summary
5.8. Exercises
II. Single-Period Random Cash Flows
6. Mean-Variance Portfolio Theory
6.1. Asset Return
6.2. Random Variables
6.3. Random Returns
6.4. Portfolio Mean and Variance
6.5. The Feasible Set
6.6. The Markowitz Model
6.7. The Two-Fund Theorem
6.8. Inclusion of a Risk-Free Asset
6.9. The One-Fund Theorem
6.10. Summary
6.11. Exercises
7. The Capital Asset Pricing Model
7.1. Market Equilibrium
7.2. The Capital Market Line
7.3. The Pricing Model
7.4. The Security Market Line
7.5. Investment Implications
7.6. Performance Evaluation
7.7. CAPM as a Pricing Formula
7.8. Project Choice
7.9. Summary
7.10. Exercises
8. Models and Data
8.1. Introduction
8.2. Factor Models
8.3. The CAPM as a Factor Model
8.4. Arbitrage Pricing Theory
8.5. Data and Statistics
8.6. Estimation of Other Parameters
8.7. Tilting Away from Equilibrium
8.8. A Multiperiod Fallacy
8.9. Summary
8.10. Exercises
9. General Principles
9.1. Introduction
9.2. Utility Functions
9.3. Risk Aversion
9.4. Specification of Utility Functions
9.5. Utility Functions and the Mean-Variance Criterion
9.6. Linear Pricing
9.7. Portfolio Choice
9.8. Log-Optimal Pricing
9.9. Finite State Models
9.10. Risk-Neutral Pricing
9.11. Pricing Alternatives
9.12. Summary
9.13. Exercises
III. Derivative Securities
10. Forwards, Futures, and Swaps
10.1. Introduction
10.2. Forward Contracts
10.3. Forward Prices
10.4. The Value of a Forward Contract
10.5. Swaps
10.6. Basics of Futures Contracts
10.7. Futures Prices
10.8. Relation to Expected Spot Price
10.9. The Perfect Hedge
10.10. The Minimum-Variance Hedge
10.11. Optimal Hedging
10.12. Hedging Nonlinear Risk
10.13. Summary
10.14. Exercises
11. Models of Asset Dynamics
11.1. Binominal Lattice Model
11.2. The Additive Model
11.3. The Multiplicative Model
11.4. Typical Parameter Values
11.5. Lognormal Random Variables
11.6. Random Walks and Wiener Processes
11.7. A Stock Price Process
11.8. Ito's Lemma
11.9. Binomial Lattice Revisited
11.10. Summary
11.11. Exercises
11.12. References
12. Basic Options Theory
12.1. Option Concepts
12.2. The Nature of Option Value
12.3. Option Combinations and Put-Call Parity
12.4. Early Exercise
12.5. Single-Period Binomial Options Theory
12.6. Multiperiod Options
12.7. More General Binomial Problems
12.8. Evaluating Real Investment Opportunities
12.9. General Risk-Neutral Pricing
12.10. Summary
12.11. Exercises
12.12. References
13. Additional Options Topics
13.1. Introduction
13.2. The Black-Scholes Equation
13.3. Call Option Formula
13.4. Risk-Neutral Valuation
13.5. Delta
13.6. Replication, Synthetic Options, and Portfolio Insurance/st
13.7. Computational Methods
13.8. Exotic Options
13.9. Storage Costs and Dividends
13.10. Martingale Pricing
13.11. Summary
13.12. Exercises
13.13. References
14. Interest Rate Derivatives
14.1. Examples of Interest-Rate Derivatives
14.2. The Need for a Theory
14.3. The Binomial Approach
14.4. Pricing Applications
14.5. Leveling and Adjustable-Rate Loans
14.6. The Forward Equation
14.7. Matching the Term Structure
14.8. Immunization
14.9. Collateralized Mortgage Obligations
14.10. Models of Interest Rate Dynamics
14.11. Continuous-Time Solutions
14.12. Summary
14.13. Exercises
14.14. References
IV. General Cash Flow Streams
15. Optimal Portfolio Growth
15.1. The Investment Wheel
15.2. The Log Utility Approach to Growth
15.3. Properties of the Log-Optimal Strategy
15.4. Alternative Approaches
15.5. Continuous-Time Growth
15.6. The Feasible Region
15.7. The Log-Optimal Pricing Formula
15.8. Log-Optimal Pricing and the Black-Scholes Equation
15.9. Summary
15.10. Exercises
15.11. References
16. General Investment Evaluation
16.1. Multiperiod Securities
16.2. Risk-Neutral Pricing
16.3. Optimal Pricing
16.4. The Double Lattice
16.5. Pricing in a Double Lattice
16.6. Investments with Private Uncertainty
16.7. Buying Price Analysis
16.8. Continuous-Time Evaluation
16.9. Summary
16.10. Exercises
16.11. References
A. Basic Probability Theory
A.1. General Concepts
A.2. Normal Random Variables
A.3. Lognormal Random Variables
B. Calculus and Optimization
B.1. Functions
B.2. Differential Calculus
B.3. Optimization
Answers to Exercises