On spatially irregular ordinary differential equations and a pathwise volatility modelling framework
This thesis develops a new framework for modelling price processes in finance, such as an equity price or foreign exchange rate. This can be related to the conventional Ito calculus-based framework through the time integral of a price's squared volatility, or `cumulative variance'. In the new framework, corresponding processes are strictly increasing, solve random ordinary differential equations (ODEs), and are composed with geometric Brownian motion. The new framework has no dependence on stochastic calculus, so processes can be studied on a pathwise basis using probability-free ODE techniques and functional analysis. The ODEs considered depend on continuous driving functions which are `spatially irregular', meaning they need not have any spatial regularity properties such as Holder continuity. They are however strictly increasing in time, thus temporally asymmetric. When sensible initial values are chosen, initial value problem (IVP) solutions are also strictly increasing, and the solution set of such IVPs is shown to contain all differentiable bijections on the non-negative reals. This enables the modelling of any non-negative volatility path which is not zero over intervals, via the time derivative of solutions. Despite this generality, new well-posedness results establish the uniqueness of solutions going forwards in time. Motivation to explore this framework comes from its connection with a time-changed Heston volatility model. The framework shows how Heston price processes can converge to a generalisation of the NIG Levy process, and reveals a deeper relationship between integrated CIR processes and the IG process. Within this framework, a `Riemann-Liouville-Heston' martingale model is defined which generalises these relationships to fractional counterparts. This model's implied volatilities are simulated, and exhibit features characteristic of leading volatility models.