ABAARSO -TECH UNIVERSITY

BUSINESS DEPARTMENT
Course Title: Mathematical Methods for Finance

Course Aims
This course is an introduction to mathematical finance. The course serves to equip students
with basic mathematical knowledge and computational skills needed to solve problems
related to finance. Furthermore, this course lays the foundation for more advanced topics,
such as econometrics, stochastic calculus and optimal control theory, which make finance a
very exciting subject.
Course Description
Modern finance draws upon many fields of mathematics, in particular, algebra,
econometric,numerical analysis, optimization theory, partial differential equations, probability
theory, statistics and stochastic calculus. The diversity of mathematical skills needed to master
finance makes it a very challenging subject for students.

The mathematical topics covered in this course include matrix algebra, calculus, difference
equation, differential equation, optimization and portfolio mathematics (please refer to the
proposed seminar schedule for details). The topics in the first five weeks of the course
introduce
students to the simplest financial market model and explain arbitrage pricing in a discrete
time framework. The topics in the next three weeks lay the foundations for continuous time
finance.The topics in the last four weeks introduce students to optimization and portfolio
theory. These selected topics serve as an introduction to some of the fields of mathematics that
modern finance draws upon.
Course Learning Outcomes
By the end of this course, students will learn to use mathematical techniques to solve asset
pricing and portfolio management problems. Specifically, students will be able to:
1. Construct and describe models for financial markets.
2. Analyze and identify arbitrage opportunities.
3. Model and price financial securities.
4. Explain and apply the Black-Scholes-Merton option pricing model.
5. Setup and perform optimization.
6. Construct and manage optimal portfolios.
 Course Content

The key topics covered in this course are as follows:

1. Time Value of Money.
2. The Simplest Model of
3. Financial Markets.
4. Arbitrage and Pricing of Securities.
5. Univariate and Multivariate Calculus.
6. Black-Scholes-Merton Option Pricing Model.
7. Unconstrained and Constrained Optimization.
8. Portfolio Mathematics.
9. Eigenvalues and Eigenvectors

Course Assessments

Components Marks Individual / Group

C1: Assignments 10 Individual

C2: Participations 10 Individual / Group

C3: Mid-tern Exam 20 Individual

Final examination 60 Individual
Total 100
 Proposed Weekly Schedule

Week
(Week beginning) Topics Learning Outcomes

1. Arithmetic & Geometric Series.

2. Simple & Compound Interest.
3. Limits & Exponential Function.
4. Continuous Compounding of Interest.
1 Time Value of 5. Present & Future Values.
Money 6. Summation of Series.
7. Present Value of a Series of Cash Flows.
8. Annuity, Perpetuity & Amortization.
9. First Order Difference Equation.
1. Growth Models.

1. Time & State Modelling.

2. One-Period Finite State Model.
3. Securities & Their Pay-Offs.
4. Securities as Vectors.
2 The Simplest Model 5.Vector Space.
of Financial 6. Operations on Securities.
Markets I 7. Matrix as a Collection of Securities.
8. Transposition.
9. Matrix Multiplication and Portfolios.

Week
(Week beginning) Topics Learning Outcomes

1. Systems of Equations.
2. Hedging.
3. Linear Independence and Redundant Securities.
4. The Structure of the Marketed Subspace.
3 The Simplest Model of 5. Identity Matrix and Arrow -Debreu Securities.
Financial Markets II 6. Matrix Determinant & Inverse.
7. Inverse Matrix and Replicating Portfolios.
8. Complete Market Hedging Formula.
 1. Hedging with Redundant Securities & Incomplete Market.
2. Asset Prices, Returns & Portfolio Units.
3. Arbitrage.

4 Arbitrage and Pricing 4. No-Arbitrage Pricing.

of Securities I 5. State Prices & the Arbitrage Theorem.
6. State Prices and Asset Returns.
7. Risk-Neutral Probabilities.
8. State Prices & No-Arbitrage Pricing.
1. One-Period Binomial Model.
Arbitrage and Pricing 2. Multi-Period Binomial Model.
5
of Securities II 3. Computational Constraints.

Week
Learning Outcomes
(Week beginning) Topics

1. Functions.
2. Payoff Functions of Derivatives.
3. Graphs.
4. Slope of a Function.
6
Univariate Calculus 5. Continuity & Differentiability.
6. Differentiation.
7. Product Rule, Quotient Rule & Chain Rule.
8. Limits & L'Hospital Rule.
9. Sensitivity Analysis using Taylor & McLaurin Series.
10. Integration.
11. Integration by Substitutions & by Parts.
1. Partial Derivatives.
2. Total Differential.
7 Multivariate Calculus 3. Implicit Differentiation.
4. Fundamental Theorem of Calculus.
5. Working with Symbolic Math using Computer.
Week Topics Learning Outcomes
(Week beginning)
1. Differential Equation.
2. Partial Differential Equation.
Black-Scholes-Merton 3. Black-Scholes-Merton Option Pricing Model.
8
Option Pricing Model
1. Maxima & Minima of Univariate Functions.
2. First & Second Order Conditions for Optimality.
9 Unconstrained 3. Convex & Concave Multivariate Functions.
Optimization 4. Unconstrained Optima of Multivariate Functions.
 1. Optimization with Equality Constraints.
2. The Lagrangian Function.
3. The Meaning of the Lagrange Multiplier.
10 Constrained 4. The Second Order Conditions for Optimality.
Optimization 5. Optimization with Inequality Constraints.
6. Inequality Constraints & Karush-Kuhn-Tucker
Conditions.

1. Returns of Securities.
2. Expected Return & Variance-Covariance Matrix.
3. Mean-Variance Framework.
4. Portfolio Expected Return & Variance.
11 5. Quadratic Forms.
Portfolio
Mathematics I 6. Basic Portfolio Problems
7. Minimum Variance Portfolio.
8. Minimizing Portfolio Risk for a Required Expected
Return. Maximizing Portfolio Expected Return Given
Tolerated Risk.
Portfolio 9. Solving Portfolio Problems by Matrix Operations.
Mathematics II 10. Solving Portfolio Problems by Row Operations.
12

Week Topics Learning Outcomes

(Week beginning)

1. Eigenvalues.
Eigenvalues & 2. Eigenvectors.
13 Eigenvectors 3. Solving Linear Difference Equations.
Diagonalization of Matrices

REFERENCED BOOKS:

1. Arlie O.,P.,& Xiaoping D. (2010): An Introduction to Mathematical Finance with

Applications:Understanding and Building Financial Intuition. Springer International
Publishing AG Switzerland.
2. Frank J. & Fabozzi, S. (2013). Mathematical Methods for Finance. Published by John
Wiley & Sons, Inc. Hoboken, New Jersey. Published in Canada