Almost Sure

29 November 16

The Section Theorems

Consider a probability space {(\Omega,\mathcal{F},{\mathbb P})} and a subset S of {{\mathbb R}_+\times\Omega}. The projection {\pi_\Omega(S)} is the set of {\omega\in\Omega} such that there exists a {t\in{\mathbb R}_+} with {(t,\omega)\in S}. We can ask whether there exists a map

\displaystyle  \tau\colon\pi_\Omega(S)\rightarrow{\mathbb R}_+

such that {(\tau(\omega),\omega)\in S}. From the definition of the projection, values of {\tau(\omega)} satisfying this exist for each individual {\omega}. By invoking the axiom of choice, then, we see that functions {\tau} with the required property do exist. However, to be of use for probability theory, it is important that {\tau} should be measurable. Whether or not there are measurable functions with the required properties is a much more difficult problem, and is answered affirmatively by the measurable selection theorem. For the question to have any hope of having a positive answer, we require S to be measurable, so that it lies in the product sigma-algebra {\mathcal{B}({\mathbb R}_+)\otimes\mathcal{F}}, with {\mathcal{B}({\mathbb R}_+)} denoting the Borel sigma-algebra on {{\mathbb R}_+}. Also, less obviously, the underlying probability space should be complete. Throughout this post, {(\Omega,\mathcal{F},{\mathbb P})} will be assumed to be a complete probability space.

It is convenient to extend {\tau} to the whole of {\Omega} by setting {\tau(\omega)=\infty} for {\omega} outside of {\pi_\Omega(S)}. Then, {\tau} is a map to the extended nonnegative reals {\bar{\mathbb R}_+={\mathbb R}_+\cup\{\infty\}} for which {\tau(\omega) < \infty} precisely when {\omega} is in {\pi_\Omega(S)}. Next, the graph of {\tau}, denoted by {[\tau]}, is defined to be the set of {(t,\omega)\in{\mathbb R}_+\times\Omega} with {t=\tau(\omega)}. The property that {(\tau(\omega),\omega)\in S} whenever {\tau(\omega) < \infty} is expressed succinctly by the inclusion {[\tau]\subseteq S}. With this notation, the measurable selection theorem is as follows.

Theorem 1 (Measurable Selection) For any {S\in\mathcal{B}({\mathbb R}_+)\otimes\mathcal{F}}, there exists a measurable {\tau\colon\Omega\rightarrow\bar{\mathbb R}_+} such that {[\tau]\subseteq S} and

\displaystyle  \left\{\tau < \infty\right\}=\pi_\Omega(S). (1)

As noted above, if it wasn’t for the measurability requirement then this theorem would just be a simple application of the axiom of choice. Requiring {\tau} to be measurable, on the other hand, makes the theorem much more difficult to prove. For instance, it would not hold if the underlying probability space was not required to be complete. Note also that, stated as above, measurable selection implies that the projection of S is equal to a measurable set {\{\tau < \infty\}}, so the measurable projection theorem is an immediate corollary. I will leave the proof of Theorem 1 for a later post, together with the proofs of the section theorems stated below.

A closely related problem is the following. Given a measurable space {(X,\mathcal{E})} and a measurable function, {f\colon X\rightarrow\Omega}, does there exist a measurable right-inverse on the image of {f}? This is asking for a measurable function, {g}, from {f(X)} to {X} such that {f(g(\omega))=\omega}. In the case where {(X,\mathcal{E})} is the Borel space {({\mathbb R}_+,\mathcal{B}({\mathbb R}_+))}, Theorem 1 says that it does exist. If S is the graph {\{(t,f(t))\colon t\in{\mathbb R}_+\}} then {\tau} will be the required right-inverse. In fact, as all uncountable Polish spaces are Borel-isomorphic to each other and, hence, to {{\mathbb R}_+}, this result applies whenever {(X,\mathcal{E})} is a Polish space together with its Borel sigma-algebra. (more…)

22 November 16

Predictable Processes

In contrast to optional processes, the class of predictable processes was used extensively in the development of stochastic integration in these notes. They appeared as integrands in stochastic integrals then, later on, as compensators and in the Doob-Meyer decomposition. Since they are also central to the theory of predictable section and projection, I will revisit the basic properties of predictable processes now. In particular, any of the collections of sets and processes in the following theorem can equivalently be used to define the predictable sigma-algebra. As usual, we work with respect to a complete filtered probability space {(\Omega,\mathcal{F},\{\mathcal{F}_t\}_{t\in{\mathbb R}_+},{\mathbb P})}. However, completeness is not actually required for the following result. All processes are assumed to be real valued, or take values in the extended reals {\bar{\mathbb R}={\mathbb R}\cup\{\pm\infty\}}.

Theorem 1 The following collections of sets and processes each generate the same sigma-algebra on {{\mathbb R}_+\times\Omega}.

  1. {{[\tau,\infty)}: {\tau} is a predictable stopping time}.
  2. {Z1_{[\tau,\infty)}} as {\tau} ranges over the predictable stopping times and Z over the {\mathcal{F}_{\tau-}}-measurable random variables.
  3. {A\times(t,\infty)\colon t\in{\mathbb R}_+,A\in\mathcal{F}_t}\cup{A\times\{0\}\colon A\in\mathcal{F}_0}.
  4. The elementary predictable processes.
  5. {{(\tau,\infty)}: {\tau} is a stopping time}{\cup}{{A\times\{0\}\colon A\in\mathcal{F}_0}}.
  6. The left-continuous adapted processes.
  7. The continuous adapted processes.

Compare this with the analogous result for sets/processes generating the optional sigma-algebra given in the previous post. The proof of Theorem 1 is given further below. First, recall that the predictable sigma-algebra was previously defined to be generated by the left-continuous adapted processes. However, it can equivalently be defined by any of the collections stated in Theorem 1. To make this clear, I now restate the definition making use if this equivalence.

Definition 2 The predictable sigma-algebra, {\mathcal{P}}, is the sigma-algebra on {{\mathbb R}_+\times\Omega} generated by any of the collections of sets/processes in Theorem 1.

A stochastic process is predictable iff it is {\mathcal{P}}-measurable.

(more…)

15 November 16

Optional Processes

The optional sigma-algebra, {\mathcal{O}}, was defined earlier in these notes as the sigma-algebra generated by the adapted and right-continuous processes. Then, a stochastic process is optional if it is {\mathcal{O}}-measurable. However, beyond the definition, very little use was made of this concept. While right-continuous adapted processes are optional by construction, and were used throughout the development of stochastic calculus, there was no need to make use of the general definition. On the other hand, optional processes are central to the theory of optional section and projection. So, I will now look at such processes in more detail, starting with the following alternative, but equivalent, ways of defining the optional sigma-algebra. Throughout this post we work with respect to a complete filtered probability space {(\Omega,\mathcal{F},\{\mathcal{F}_t\}_{t\in{\mathbb R}_+},{\mathbb P})}, and all stochastic processes will be assumed to be either real-valued or to take values in the extended reals {\bar{\mathbb R}={\mathbb R}\cup\{\pm\infty\}}.

Theorem 1 The following collections of sets and processes each generate the same sigma-algebra on {{\mathbb R}_+\times\Omega}.

  1. {{[\tau,\infty)}: {\tau} is a stopping time}.
  2. {Z1_{[\tau,\infty)}} as {\tau} ranges over the stopping times and Z over the {\mathcal{F}_\tau}-measurable random variables.
  3. The cadlag adapted processes.
  4. The right-continuous adapted processes.

The optional-sigma algebra was previously defined to be generated by the right-continuous adapted processes. However, any of the four collections of sets and processes stated in Theorem 1 can equivalently be used, and the definitions given in the literature do vary. So, I will restate the definition making use of this equivalence.

Definition 2 The optional sigma-algebra, {\mathcal{O}}, is the sigma-algebra on {{\mathbb R}_+\times\Omega} generated by any of the collections of sets/processes in Theorem 1.

A stochastic process is optional iff it is {\mathcal{O}}-measurable.

(more…)

8 November 16

Measurable Projection and the Debut Theorem

I will discuss some of the immediate consequences of the following deceptively simple looking result.

Theorem 1 (Measurable Projection) If {(\Omega,\mathcal{F},{\mathbb P})} is a complete probability space and {A\in\mathcal{B}({\mathbb R})\otimes\mathcal{F}} then {\pi_\Omega(A)\in\mathcal{F}}.

The notation {\pi_B} is used to denote the projection from the cartesian product {A\times B} of sets A and B onto B. That is, {\pi_B((a,b)) = b}. As is standard, {\mathcal{B}({\mathbb R})} is the Borel sigma-algebra on the reals, and {\mathcal{A}\otimes\mathcal{B}} denotes the product of sigma-algebras.

Theorem 1 seems almost obvious. Projection is a very simple map and we may well expect the projection of, say, a Borel subset of {{\mathbb R}^2} onto {{\mathbb R}} to be Borel. In order to formalise this, we could start by noting that sets of the form {A\times B} for Borel A and B have an easily described, and measurable, projection, and the Borel sigma-algebra is the closure of the collection such sets under countable unions and under intersections of decreasing sequences of sets. Furthermore, the projection operator commutes with taking the union of sequences of sets. Unfortunately, this method of proof falls down when looking at the limit of decreasing sequences of sets, which does not commute with projection. For example, the decreasing sequence of sets {S_n=(0,1/n)\times{\mathbb R}\subseteq{\mathbb R}^2} all project onto the whole of {{\mathbb R}}, but their limit is empty and has empty projection.

There is an interesting history behind Theorem 1, as mentioned by Gerald Edgar on MathOverflow (1) in answer to The most interesting mathematics mistake? In a 1905 paper, Henri Lebesgue asserted that the projection of a Borel subset of the plane onto the line is again a Borel set (Lebesgue, (3), pp 191–192). This was based on the erroneous assumption that projection commutes with the limit of a decreasing sequence of sets. The mistake was spotted, in 1916, by Mikhail Suslin, and led to his investigation of analytic sets and to begin the study of what is now known as descriptive set theory. See Kanamori, (2), for more details. In fact, as was shown by Suslin, projections of Borel sets need not be Borel. So, by considering the case where {\Omega={\mathbb R}} and {\mathcal{F}=\mathcal{B}({\mathbb R})}, Theorem 1 is false if the completeness assumption is dropped. I will give a proof of Theorem 1 but, as it is a bit involved, this is left for a later post.

For now, I will state some consequences of the measurable projection theorem which are important to the theory of continuous-time stochastic processes, starting with the following. Throughout this post, the underlying probability space {(\Omega,\mathcal{F})} is assumed to be complete, and stochastic processes are taken to be real-valued, or take values in the extended reals {\bar{\mathbb R}={\mathbb R}\cup\{\pm\infty\}}, with time index ranging over {{\mathbb R}_+}. For a first application of measurable projection, it allows us to show that the supremum of a jointly measurable processes is measurable.

Lemma 2 If X is a jointly measurable process and {S\in\mathcal{B}(\mathbb{R}_+)} then {\sup_{s\in S}X_s} is measurable.

Proof: Setting {U=\sup_{s\in S}X_s} then, for each real K, {U > K} if and only if {X_s > K} for some {s\in S}. Hence,

\displaystyle  U^{-1}\left((K,\infty]\right)=\pi_\Omega\left((S\times\Omega)\cap X^{-1}\left((K,\infty]\right)\right).

By the measurable projection theorem, this is in {\mathcal{F}} and, as sets of the form {(K,\infty]} generate the Borel sigma-algebra on {\mathbb{\bar R}}, U is {\mathcal{F}}-measurable. ⬜

Next, the running maximum of a jointly measurable process is again jointly measurable.

Lemma 3 If X is a jointly measurable process then {X^*_t\equiv\sup_{s\le t}X_s} is also jointly measurable.

(more…)

1 November 16

Predictable Projection For Left-Continuous Processes

In the previous post, I looked at optional projection. Given a non-adapted process X we construct a new, adapted, process Y by taking the expected value of {X_t} conditional on the information available up until time t. I will now concentrate on predictable projection. This is a very similar concept, except that we now condition on the information available strictly before time t.

It will be assumed, throughout this post, that the underlying filtered probability space {(\Omega,\mathcal{F},\{\mathcal{F}_t\}_{t\in{\mathbb R}_+},{\mathbb P})} satisfies the usual conditions, meaning that it is complete and right-continuous. This is just for convenience, as most of the results stated here extend easily to non-right-continuous filtrations. The sigma-algebra

\displaystyle  \mathcal{F}_{t-} = \sigma\left(\mathcal{F}_s\colon s < t\right)

represents the collection of events which are observable before time t and, by convention, we take {\mathcal{F}_{0-}=\mathcal{F}_0}. Then, the conditional expectation of X is written as,

\displaystyle  Y_t={\mathbb E}[X_t\;\vert\mathcal{F}_{t-}]{\rm\ \ (a.s.)} (1)

By definition, Y is adapted. However, at each time, (1) only defines Y up to a zero probability set. It does not determine the paths of Y, which requires specifying its values simultaneously at the uncountable set of times in {{\mathbb R}_+}. So, (1) does not tell us the distribution of Y at random times, and it is necessary to specify an appropriate version for Y. Predictable projection gives a uniquely defined modification satisfying (1). The full theory of predictable projection for jointly measurable processes requires the predictable section theorem. However, as I demonstrate here, in the case where X is left-continuous, predictable projection can be done by more elementary methods. The statements and most of the proofs in this post will follow very closely those given previously for optional projection. The main difference is that left and right limits are exchanged, predictable stopping times are used in place of general stopping times, and the sigma algebra {\mathcal{F}_{t-}} is used in place of {\mathcal{F}_t}.

Stochastic processes will be defined up to evanescence, so two processes are considered to be the same if they are equal up to evanescence. In order to apply (1), some integrability requirements need to imposed. I will use local integrability. Recall that, in these notes, a process X is locally integrable if there exists a sequence of stopping times {\tau_n} increasing to infinity and such that

\displaystyle  1_{\{\tau_n > 0\}}\sup_{t \le \tau_n}\lvert X_t\rvert (2)

is integrable. This is a strong enough condition for the conditional expectation (1) to exist, not just at each fixed time, but also whenever t is a stopping time. The main result of this post can now be stated.

Theorem 1 (Predictable Projection) Let X be a left-continuous and locally integrable process. Then, there exists a unique left-continuous process Y satisfying (1).

As it is left-continuous, the fact that Y is specified, almost surely, at any time t by (1) means that it is uniquely determined up to evanescence. The main content of Theorem 1 is the existence of Y, and the proof of this is left until later in this post.

The process defined by Theorem 1 is called the predictable projection of X, and is denoted by {{}^{\rm p}\!X}. So, {{}^{\rm p}\!X} is the unique left-continuous process satisfying

\displaystyle  {}^{\rm p}\!X_t={\mathbb E}[X_t\;\vert\mathcal{F}_{t-}]{\rm\ \ (a.s.)} (3)

for all times t. In practice, X will usually not just be left-continuous, but will also have right limits everywhere. That is, it is caglad (“continu à gauche, limites à droite”).

Theorem 2 Let X be a caglad and locally integrable process. Then, its predictable projection is caglad.

The simplest non-trivial example of predictable projection is where {X_t} is constant in t and equal to an integrable random variable U. Then, {{}^{\rm p}\!X_t=M_{t-}} is the left-limits of the cadlag martingale {M_t={\mathbb E}[U\;\vert\mathcal{F}_t]}, so {{}^{\rm p}\!X} is easily seen to be a caglad process. (more…)

25 October 16

Optional Projection For Right-Continuous Processes

In filtering theory, we have a filtered probability space {(\Omega,\mathcal{F},\{\mathcal{F}_t\}_{t\ge 0},{\mathbb P})} and a signal process {\{X_t\}_{t\in{\mathbb R}_+}}. The sigma-algebra {\mathcal{F}_t} represents the collection of events which are observable up to and including time t. The process X is not assumed to be adapted, so need not be directly observable. For example, we may only be able to measure an observation process {Z_t=X_t+\epsilon_t}, which incorporates some noise {\epsilon_t}, and generates the filtration {\mathcal{F}_t}, so is adapted. The problem, then, is to compute an estimate for {X_t} based on the observable data at time t. Looking at the expected value of X conditional on the observable data, we obtain the following estimate for X at each time {t\in{\mathbb R}_+},

\displaystyle  Y_t={\mathbb E}[X_t\;\vert\mathcal{F}_t]{\rm\ \ (a.s.)} (1)

The process Y is adapted. However, as (1) only defines Y up to a zero probability set, it does not give us the paths of Y, which requires specifying its values simultaneously at the uncountable set of times in {{\mathbb R}_+}. Consequently, (1) does not tell us the distribution of Y at random times. So, it is necessary to specify a good version for Y.

Optional projection gives a uniquely defined process which satisfies (1), not just at every time t in {{\mathbb R}_+}, but also at all stopping times. The full theory of optional projection for jointly measurable processes requires the optional section theorem. As I will demonstrate, in the case where X is right-continuous, optional projection can be done by more elementary methods.

Throughout this post, it will be assumed that the underlying filtered probability space satisfies the usual conditions, meaning that it is complete and right-continuous, {\mathcal{F}_{t+}=\mathcal{F}_t}. Stochastic processes are considered to be defined up to evanescence. That is, two processes are considered to be the same if they are equal up to evanescence. In order to apply (1), some integrability requirements need to imposed on X. Often, to avoid such issues, optional projection is defined for uniformly bounded processes. For a bit more generality, I will relax this requirement a bit and use prelocal integrability. Recall that, in these notes, a process X is prelocally integrable if there exists a sequence of stopping times {\tau_n} increasing to infinity and such that

\displaystyle  1_{\{\tau_n > 0\}}\sup_{t < \tau_n}\lvert X_t\rvert (2)

is integrable. This is a strong enough condition for the conditional expectation (1) to exist, not just at each fixed time, but also whenever t is a stopping time. The main result of this post can now be stated.

Theorem 1 (Optional Projection) Let X be a right-continuous and prelocally integrable process. Then, there exists a unique right-continuous process Y satisfying (1).

Uniqueness is immediate, as (1) determines Y, almost-surely, at each fixed time, and this is enough to uniquely determine right-continuous processes up to evanescence. Existence of Y is the important part of the statement, and the proof will be left until further down in this post.

The process defined by Theorem 1 is called the optional projection of X, and is denoted by {{}^{\rm o}\!X}. That is, {{}^{\rm o}\!X} is the unique right-continuous process satisfying

\displaystyle  {}^{\rm o}\!X_t={\mathbb E}[X_t\;\vert\mathcal{F}_t]{\rm\ \ (a.s.)} (3)

for all times t. In practise, the process X will usually not just be right-continuous, but will also have left limits everywhere. That is, it is cadlag.

Theorem 2 Let X be a cadlag and prelocally integrable process. Then, its optional projection is cadlag.

A simple example of optional projection is where {X_t} is constant in t and equal to an integrable random variable U. Then, {{}^{\rm o}\!X_t} is the cadlag version of the martingale {{\mathbb E}[U\;\vert\mathcal{F}_t]}. (more…)

21 October 16

The Projection Theorems

Back when I first started this series of posts on stochastic calculus, the aim was to write up the notes which I began writing while learning the subject myself. The idea behind these notes was to give a more intuitive and natural, yet fully rigorous, approach to stochastic integration and semimartingales than the traditional method. The stochastic integral and related concepts were developed without requiring advanced results such as optional and predictable projection or the Doob-Meyer decomposition which are often used in traditional approaches. Then, the more advanced theory of semimartingales was developed after stochastic integration had already been established. This now complete! The list of subjects from my original post have now all been posted. Of course, there are still many important areas of stochastic calculus which are not adequately covered in these notes, such as local times, stochastic differential equations, excursion theory, etc. I will now focus on the projection theorems and related results. Although these are not required for the development of the stochastic integral and the theory of semimartingales, as demonstrated by these notes, they are still very important and powerful results invaluable to much of the more advanced theory of continuous-time stochastic processes. Optional and predictable projection are often regarded as quite advanced topics beyond the scope of many textbooks on stochastic calculus. This is because they require some descriptive set theory and, in particular, some understanding of analytic sets. The level of knowledge required for applications to stochastic calculus is not too great though, and I aim to give complete proofs of the projection theorems in these notes. However, the proofs of these theorems do require ideas which are not particularly intuitive from the viewpoint of stochastic calculus, and hence the desire to avoid them in the initial development of the stochastic integral. The theory of semimartingales and stochastic integration will not used at all in the series of posts on the projection theorems, and all that will be required from these stochastic calculus notes are the initial posts on filtrations and processes. I will also mention quasimartingales, although only the definition and very basic properties will be required.

The subjects related to the projection theorems which I will cover are,

  • The Debut Theorem. I have already covered the debut theorem for right-continuous processes. This is a special case of the more general result which applies to arbitrary progressively measurable processes.
  • The Optional and Predictable Section Theorems. These very powerful results state that optional processes are determined, up to evanescence, by their values at stopping times and, similarly, predictable processes are determined by their values at predictable stopping times.
  • Optional and Predictable Projection. This forms the core of these sequence of posts, and follows in a straightforward way from the section theorems. As the section theorems are required to prove them, the projection theorems are also regarded as an advanced topic. However, for right-continuous and left-continuous processes it is possible to construct respectively the optional and predictable projections in a more elementary and natural way, without involving the section theorems.
  • Dual Optional and Predictable Projection. The dual projections are, as the name suggests, dual to the optional and predictable projections mentioned above. These apply to increasing integrable processes or, more generally, to processes with integrable variation. For a process X, the dual projections can be thought of as the optional and predictable projections applied to the differential {dX}.
  • The Doléans Measure. The Doléans measure can be defined for class (D) submartingales and, applied to the square of a martingale, can be used to construct the stochastic integral for square integrable martingales. Although this does not involve the projection theorems, the Doléans measure in conjunction with dual predictable projection gives a slick proof of the Doob-Meyer decomposition. The Doléans measure also exists for quasimartingales and, similarly, the Doob-Meyer decomposition can be extended to such processes.

12 October 16

Do Convex and Decreasing Functions Preserve the Semimartingale Property — A Possible Counterexample

f(t,x)

Figure 1: The function f, convex in x and decreasing in t

Here, I attempt to construct a counterexample to the hypotheses of the earlier post, Do convex and decreasing functions preserve the semimartingale property? There, it was asked, for any semimartingale X and function {f\colon{\mathbb R}_+\times{\mathbb R}\rightarrow{\mathbb R}} such that {f(t,x)} is convex in x and right-continuous and decreasing in t, is {f(t,X_t)} necessarily a semimartingale? It was explained how this is equivalent to the hypothesis: for any function {f\colon[0,1]^2\rightarrow{\mathbb R}} such that {f(t,x)} is convex and Lipschitz continuous in x and decreasing in t, does it decompose as {f=g-h} where {g(t,x)} and {h(t,x)} are convex in x and increasing in t. This is the form of the hypothesis which this post will be concerned with, so the example will only involve simple real analysis and no stochastic calculus. I will give some numerical calculations suggesting that the construction below is a counterexample, but do not have any proof of this. So, the hypothesis is still open.

Although the construction given here will be self-contained, it is worth noting that it is connected to the example of a martingale which moves along a deterministic path. If {\{M_t\}_{t\in[0,1]}} is the martingale constructed there, then

\displaystyle  C(t,x)={\mathbb E}[(M_t-x)_+]

defines a function from {[0,1]\times[-1,1]} to {{\mathbb R}} which is convex in x and increasing in t. The question is then whether C can be expressed as the difference of functions which are convex in x and decreasing in t. The example constructed in this post will be the same as C with the time direction reversed, and with a linear function of x added so that it is zero at {x=\pm1}. (more…)

5 October 16

A Martingale Which Moves Along a Deterministic Path

Sample Paths

Figure 1: Sample paths

In this post I will construct a continuous and non-constant martingale M which only varies on the path of a deterministic function {f\colon{\mathbb R}_+\rightarrow{\mathbb R}}. That is, {M_t=f(t)} at all times outside of the set of nontrivial intervals on which M is constant. Expressed in terms of the stochastic integral, {dM_t=0} on the set {\{t\colon M_t\not=f(t)\}} and,

\displaystyle  M_t = \int_0^t 1_{\{M_s=f(s)\}}\,dM_s. (1)

In the example given here, f will be right-continuous. Examples with continuous f do exist, although the constructions I know of are considerably more complicated. At first sight, these properties appear to contradict what we know about continuous martingales. They vary unpredictably, behaving completely unlike any deterministic function. It is certainly the case that we cannot have {M_t=f(t)} across any interval on which M is not constant.

By a stochastic time-change, any Brownian motion B can be transformed to have the same distribution as M. This means that there exists an increasing and right-continuous process A adapted to the same filtration as B and such that {B_t=M_{A_t}} where M is a martingale as above. From this, we can infer that

\displaystyle  B_t=f(A_t),

expressing Brownian motion as a function of an increasing process. (more…)

26 September 16

Do Convex and Decreasing Functions Preserve the Semimartingale Property?

Some years ago, I spent considerable effort trying to prove the hypothesis below. After failing at this, I spent time trying to find a counterexample, but also with no success. I did post this as a question on mathoverflow, but it has so far received no conclusive answers. So, as far as I am aware, the following statement remains unproven either way.

Hypothesis H1 Let {f\colon{\mathbb R}_+\times{\mathbb R}\rightarrow{\mathbb R}} be such that {f(t,x)} is convex in x and right-continuous and decreasing in t. Then, for any semimartingale X, {f(t,X_t)} is a semimartingale.

It is well known that convex functions of semimartingales are themselves semimartingales. See, for example, the Ito-Tanaka formula. More generally, if {f(t,x)} was increasing in t rather than decreasing, then it can be shown without much difficulty that {f(t,X_t)} is a semimartingale. Consider decomposing {f(t,X_t)} as

\displaystyle  f(t,X_t)=\int_0^tf_x(s,X_{s-})\,dX_s+V_t, (1)

for some process V. By convexity, the right hand derivative of {f(t,x)} with respect to x always exists, and I am denoting this by {f_x}. In the case where f is twice continuously differentiable then the process V is given by Ito’s formula which, in particular, shows that it is a finite variation process. If {f(t,x)} is convex in x and increasing in t, then the terms in Ito’s formula for V are all increasing and, so, it is an increasing process. By taking limits of smooth functions, it follows that V is increasing even when the differentiability constraints are dropped, so {f(t,X_t)} is a semimartingale. Now, returning to the case where {f(t,x)} is decreasing in t, Ito’s formula is only able to say that V is of finite variation, and is generally not monotonic. As limits of finite variation processes need not be of finite variation themselves, this does not say anything about the case when f is not assumed to be differentiable, and does not help us to determine whether or not {f(t,X_t)} is a semimartingale.

Hypothesis H1 can be weakened by restricting to continuous functions of continuous martingales.

Hypothesis H2 Let {f\colon{\mathbb R}_+\times{\mathbb R}\rightarrow{\mathbb R}} be such that {f(t,x)} is convex in x and continuous and decreasing in t. Then, for any continuous martingale X, {f(t,X_t)} is a semimartingale.

As continuous martingales are special cases of semimartingales, hypothesis H1 implies H2. In fact, the reverse implication also holds so that hypotheses H1 and H2 are equivalent.

Hypotheses H1 and H2 can also be recast as a simple real analysis statement which makes no reference to stochastic processes.

Hypothesis H3 Let {f\colon{\mathbb R}_+\times{\mathbb R}\rightarrow{\mathbb R}} be such that {f(t,x)} is convex in x and decreasing in t. Then, {f=g-h} where {g(t,x)} and {h(t,x)} are convex in x and increasing in t.

(more…)

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