Tag Archives: JCM_math545_HW3_S17

Ito Integration by parts

Recall that if \(u(t)\) and \(v(t)\) are deterministic functions which are once differentiable then the classic integration by parts formula states that
\[ \int_0^t u(s) (\frac{dv}{ds})(s)\,ds = u(t)v(t) – u(0)v(0) – \int_0^t v(s) (\frac{du}{ds})(s)\,ds\]

As is suggested by the formal relations

\[ (\frac{dv}{ds})(s)\,ds=dv(s) \qquad\text{and}\qquad (\frac{du}{ds})(s)\, ds=du(s)\]

this can be rearranged  to state

\[ u(t)v(t)- u(0)v(0)=  \int_0^t u(s) dv(s) + \int_0^t v(s) du(s)\]

which holds for more general Riemann–Stieltjes integrals. Now consider two Ito processes \(X_t\) and \(Y_t\) given by

\[dX_t=b_s ds + \sigma_s dW_t \qquad\text{and}\qquad dY_t=f_s ds + g_s dW_t \]

where \(W_t\) is a standard Brownian Motion. Derive the “Integration by Parts formula” for Ito calculus by applying Ito’s formula to \(X_tY_t\). Compare this the the classical formula given above.

Cross-quadratic variation: correlated Brownian Motions

Let \(W_t\) and \(B_t\) be two independent standard Brownian Motions. For \(\rho \in [0,1]\) define
\[ Z_t = {\rho}\, W_t +\sqrt{1-\rho^2}\, B_t\]

  1. Why is \(Z_t\) a standard Brownian Motion ?
  2. Calculate  the cross-quadratic variations \([ Z,W]_t\) and \([ Z,B]_t\) .
  3. For what values of \(\rho\) is \(W_t\) independent of \(Z_t\) ?
  4. ** Argue that two standard Brownian motions  are independent if and only if  their cross-quadratic variation is zero.


Quadratic Variation of Ito Integrals

Given a stochastic process  \(f_t\) and \(g_t\) adapted to a filtration \(\mathcal F_t\) satisfying

\[\int_0^T\mathbf E f_t^2 dt < \infty\quad\text{and}\quad \int_0^T\mathbf E g_t^2 dt < \infty\]


\[M_t =\int_0^t f_s dW_s \quad \text{and}\quad N_t =\int_0^t g_s dW_s\]

for some standard Brownian Motion also adapted to the  filtration \(\mathcal F_t\) . Though it is not necessary, assume that  there exists a \(K>0\) so that  \(|f_t|\) and \(|g_t|\)  are less than some \(K\)  for all \(t\) almost surely.

Let \(\{ t_i^{(n)} : i=0,\dots,N(n)\}\) be sequence of partitions of \([0,T]\) of the form

\[ 0 =t_0^{(n)} < t_1^{(n)} <\cdots<t_N^{(n)}=T\]

such that

\[ \lim_{n \rightarrow \infty} \sup_i |t_{i+1}^{(n)} – t_i^{(n)}| = 0\]


\[V_n[M]=\sum_{i=1}^{N(n)} \big(M_{t_i} -M_{t_{i-1}}\big)^2\]


\[Q_n[M,N]= \sum_{i=1}^{N(n)} \big(M_{t_i} -M_{t_{i-1}}\big)\big(N_{t_i} -N_{t_{i-1}}\big)\]

Clearly \(V_n[M]= Q_n[M,M]\). Show  that the following points hold.

  1. The “polarization equality” holds:
    \[ 4 Q_n[M,N] =V_n[M+N] -V_n[M-N]\]
    Hence it is enough to understand the limit of \(n \rightarrow \infty\) of \(Q_n\) or \(V_n\).
  2. \[\mathbf E V_n[M]= \int_0^T \mathbf E f_t^2 dt\]
  3. * \(V_n[M]\rightarrow \int_0^T  f_t^2 dt\) as \(n \rightarrow \infty\) in \(L^2\). That is to say
    \[ \lim_{n \rightarrow \infty}\mathbf E \Big[ \big( V_n[M] –   \int_0^T  f_t^2 dt  \big)^2 \Big]=0\]
    This limit is called the Quadratic Variation of the Martingale \(M\).
  4. Using the results above, show that \(Q_n[M,N]\rightarrow \int_0^T  f_t g_t dt\) as \(n \rightarrow \infty\) in \(L^2\). This is called the cross-quadratic variation of \(M\) and \(N\).
  5. * Prove by direct calculation that  in the spirit of 3) from above that   \(Q_n[M,N]\rightarrow \int_0^T  f_t g_t dt\) as \(n \rightarrow \infty\) in \(L^2\).


In this context, one writes \(\langle M \rangle_T\) for the limit of the \(V_n[M]\)  which is called the quadratic variation process of \(M_T\). Similarly  one writes  \(\langle M,N \rangle_T\) for the  limit of \(Q_n[M,N]\)  which is called the cross-quadratic variation process of \(M_T\) and \(N_T\). Clearly \(\langle M \rangle_T = \langle M,M \rangle_T\) and \( \langle M+N,M \rangle_T = \langle M,  M+N\rangle_T= \langle M \rangle_T + \langle M,  N\rangle_T\).



Covariance of Ito Integrals

Let \(f_t\) and \(f_t\) be two stochastic processes adapted to a filtration \(\mathcal F_t\) such that

\[\int_0^\infty \mathbf E (f_t^2) dt < \infty \qquad \text{and} \qquad \int_0^\infty \mathbf E (g_t^2) dt < \infty\]

Let \(W_t\) be a standard brownian motion  also adapted to the filtration \(\mathcal F_t\) and define the stochastic processes

\[ X_t =\int_0^t f_s dW_s \qquad \text{and} \qquad Y_t=\int_0^t g_s dW_s\]

Calculate the following:

  1. \( \mathbf E (X_t  X_s ) \)
  2. \( \mathbf E (X_t  Y_t ) \)
    Hint: You know how to compute \( \mathbf E (X_t^2 ) \) and \( \mathbf E (Y_t^2 ) \). Use the fact that \((a+b)^2 = a^2 +2ab + b^2\) to answer the question. Simplify the result to get a compact expression for the answer.
  3. Show that if \(f_t=\sin(2\pi t)\) and \(g_t=\cos(2\pi t)\) then \(X_1\) and \(Y_1\) are independent random variables.(Hint: use the result here  to deduce that \(X_1\) and \(Y_1\) are mean zero gaussian random variables. Now use the above results to show that the covariance of \(X_1\) and \(Y_1\) is zero. Combining these two facts implies that the random variables are independent.)

Gaussian Ito Integrals

In this problem, we will show that the Ito integral of a deterministic function is a Gaussian Random Variable.

Let \(\phi\) be deterministic elementary functions. In other words there exists a  sequence of  real numbers \(\{c_k : k=1,2,\dots,N\}\) so that

\[ \sum_{k=1}^\infty c_k^2 < \infty\]

and there exists a partition

\[0=t_0 < t_1< t_2 <\cdots<t_N=T\]

so that

\[ \phi(t) = \sum_{k=1}^N c_k \mathbf{1}_{[t_{k-1},t_k)}(t) \]


  1. Show that if \(W(t)\) is a standard brownian motion then the Ito integral
    \[ \int_0^T \phi(t) dW(t)\]
    is a Gaussian random variable with mean zero and variance
    \[ \int_0^T \phi(t)^2 dt \]
  2. * Let \(f\colon [0,T] \rightarrow \mathbf R\) be a deterministic function such that
    \[\int_0^T f(t)^2 dt < \infty\]
    Then it can be shown that there exists a sequence of  deterministic elementary functions \(\phi_n\) as above such that
    \[\int_0^T (f(t)-\phi_n(t))^2 dt \rightarrow 0\qquad\text{as}\qquad n \rightarrow \infty\]
    Assuming this fact, let \(\psi_n\) be the characteristic function  of the random variable
    \[ \int_0^T \phi_n(t) dW(t)\]
    Show that for all \(\lambda \in \mathbf R\), show that
    \[ \lim_{n \rightarrow \infty} \psi_n(\lambda) = \exp \Big( -\frac{\lambda^2}2 \big( \int_0^T f(t)^2 dt \big)  \Big)\]
    Then use the the convergence result here to conclude that
    \[ \int_0^T f(t) dW(t)\]
    is a Gaussian Random Variable with mean zero and variance
    \[\int_0^T f(t)^2 dt \]
    by identifying the limit of the characteristic functions above.

    Note: When Probabilistic say the “characteristic function” of a random distribution they just mean the Fourier transform of the random variable. See here.

Making the Cube of Brownian Motion a Martingale

Let \(B_t\) be a standard one dimensional Brownian
Motion. Find the function \(F:\mathbf{R}^5 \rightarrow \mathbf R\) so that
B_t^3 – F\Big(t,B_t,B_t^2,\int_0^t B_s ds, \int_0^t B_s^2 ds\Big)
is a Martingale.

Hint: It might be useful to introduce the processes
\[X_t=B_t^2\qquad Y_t=\int_0^t B_s ds \qquad Z_t=\int_0^t B_s^2 ds\]