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Rutgers Business School--Newark & New Brunswick

MQF 22:839:571:40, Financial Modeling I

Spring 2011

(January 4, 2011)Professor Yangru Wu

Phone: 973-353-1146Email: yangruwu@andromeda.rutgers.edu; Homepage: http://andromeda.rutgers.edu/~yangruwu

Office: 1WP-1170; Classroom: 1WP-120; Class Time: M, 6:00pm; Office Hrs: by appointment

Academic Integrity

All students are expected to know, understand and live up to the standards of academic integrityexplained at http://academicintegrity.rutgers.edu/integrity.shtml.

Computer Policy in the Classroom

The Trading Room has computers connected to the internet and many students come to school

with their own laptop computer. Some instructors have complained that some students usecomputers to chat via the internet, do emails, or simply surf the internet all the time without

paying attention to their classes. I find such behavior a huge distraction and disrespect of theinstructor and other class participants. Therefore, I ask you to kindly refrain from doing any of

those at all in class. Violators will be politely asked to leave the classroom. None of our exams

requires a computer, so the usage of a computer during an exam will be considered cheating.

Course Description

This is a quantitatively-oriented financial economics course for the Master of Quantitative

Finance (MQF) students. The course covers the basic concepts and analytical techniques of

modern portfolio theory and asset pricing. Topics include Fisher separation, risk analysis using

expected utility theory, mean-variance analysis, capital asset pricing model, arbitrage pricingtheory, state preference theory, consumption-based asset pricing, market efficiency, empiricaltests of asset pricing models, and introduction to continuous-time finance and option pricing.

Main References

1. Copeland, Thomas E. and J. Fred Weston, 2005, Financial Theory and Corporate Policy, 4thed., Addison-Wesley Publishing Company, ISBN 0-321-12721-8.

2. Huang, Chi-fu and Robert Litzenberger, 1988, Foundations for Financial Economics,Prentice-Hall, ISBN 0-13-500653-8.

Other Useful References

3.

Shreve, Steven, Stochastic Calculus for Finance I & II, Springer, ISBN 978-0-387-24968-1,978-0-387-40101-0.4. Cochrane, John, 2005,Asset Pricing, second edition, Princeton University Press, ISBN 978-

0-691-12137-6.

5. Campbell, John Y., Andrew W. Lo and A. Craig MacKinlay, 1997, The Econometrics ofFinancial Markets, Princeton University Press, ISBN 0-691-04301-9.

6. Duffie, Darrell, 2001, Dynamic Asset Pricing Theory, third edition, Princeton UniversityPress, ISBN 13: 978-0-691-09022-1.

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7. Ingersoll, Jonathan, 1987, Theory of Financial Decision Marking, Rowman & Littlefield.8. Pennacchi, George, 2008, Theory of Asset Pricing, Pearson Addison-Wesley, ISBN 13-978-

0-321-127720-4.

Grading Policy

1.

Exam I, Monday, March 8, 2010, 30%2. Exam II, Monday, May 3, 2010, 30%3. Problem sets, 40%

All exams are closed-book, closed-notes. Homework must be submitted in hardcopy. Classparticipation is important and can affect your grade in border-line cases. I may take class

attendance from time to time.

Topics Covered (tentative, subject to change)

I. Review of Expected Utility Theory and Portfolio Decision ProblemCopeland-Weston, 3; Huang-Litzernberger, 1

II. Generalized Risk and Asset PricingHuang-Litzernberger, 2; Copeland-Weston, 3

III. The Mean-Variance FrontierHuang-Litzernberger, 3; Copeland-Weston, 5; Cochrane, 5

IV. Market Equilibrium and the CAPMHuang-Litzernberger, 4; Copeland-Weston, 6

V. Linear Valuation and Factor ModelsHuang-Litzernberger, 4; Copeland-Weston, 6; Cochrane, 9

VI. State Preference Theory and Equilibrium under Complete MarketsHuang-Litzernberger, 5; Copeland-Weston, 4; Shreve I, 3

VII. Testing Asset Pricing Models and Market AnomaliesCampbell, et al, 5, 6; Huang-Litzernberger, 10; Cochrane, 12, 15; Copeland-Weston, 6

VIII. Consumption-Based Asset PricingCochrane, 1; Campbell, Lo and MacKinlay, 8

IX. No Arbitrage Pricing, the Binomial TreeShreve I, 1

X. Brownian Motion and Itos LemmaShreve II, 3.2, 3.3, 4.2., 4.3, 4.4; Cochrane, A1, A2, A3

XI. The Black-Scholes-Merton ModelShreve II, 4.5