A model for a large investor trading at market indifference prices. II: Continuous-time case

We develop from basic economic principles a continuous-time model for a large investor who trades with a finite number of market makers at their utility indifference prices. In this model, the market makers compete with their quotes for the investor's orders and trade among themselves to attain Pareto optimal allocations. We first consider the case of simple strategies and then, in analogy to the construction of stochastic integrals, investigate the transition to general continuous dynamics. As a result, we show that the model's evolution can be described by a nonlinear stochastic differential equation for the market makers' expected utilities.
Comment: Published at http://dx.doi.org/10.1214/14-AAP1059 in the Annals of Applied Probability (http://www.imstat.org/aap/) by the Institute of Mathematical Statistics (http://www.imstat.org)