OLD PROBLEMS, CLASSICAL METHODS, NEW SOLUTIONS

Abstract

We use a powerful extension of the classical method of heat potentials, recently developed by the present author and his collaborators, to solve several significant problems of financial mathematics. We consider the following problems in detail: (a) calibrating the default boundary in the structural default framework to a constant default intensity; (b) calculating default probability for a representative bank in the mean-field framework; and (c) finding the hitting time probability density of an Ornstein–Uhlenbeck process. Several other problems, including pricing American put options and finding optimal mean-reverting trading strategies, are mentioned in passing. Besides, two nonfinancial applications — the supercooled Stefan problem and the integrate-and-fire neuroscience problem — are briefly discussed as well.