FUZZY UP AND DOWN PROBABILITIES IN A FINANCIAL PROBLEM

S. Muzzioli
Department of Economics,
University of Modena and Reggio Emilia,
Italy
muzzioli.silvia@unimore.it
H. Reynaerts
Department of Applied Mathematics
and Computer Science,
Ghent University,
Belgium
huguette.reynaerts@UGent.be

Abstract
Linear systems of equations, with uncertainty on the parameters, play
a majour role in several applications in various areas such as economics,
finance, engineering and physics. This paper investigates a financial prob-
lem in which the up and down probabilities are solutions of a fuzzy linear
systems of the form A1 x + b1 = A2 x + b2 with A1 , A2 square matrices of
fuzzy coefficients and b1 , b2 fuzzy number vectors.
The aim of this paper is twofold. First, a generalization of the vector so-
lution of Buckley and Qu (1991) to the fuzzy system A1 x + b1 = A2 x + b2
is provided. In particular, we give the conditions under which the system
has a vector solution and we show that the linear systems Ax = b and
A1 x + b1 = A2 x + b2 , with A = A1 − A2 and b = b2 − b1 , have the same
vector solutions. In order to find the vector solution, a simple algorithm
is proposed. Second the financial problem is solved.

Keywords:imprecisize probability, financial model, fuzzy linear systems

1 INTRODUCTION
Several problems in various areas such as economics, finance, engineering and
physics, boil down to the solution of a linear system of equations. When the
estimation of the system coefficients is imprecise and we have only some vague
knowledge about the actual value of the parameters, it may be convenient to
represent some or all of them with interval values.
The linear system Ax = b, where the elements, aij , of the matrix A and the
elements, bi , of the vector b are intervals, is called an interval linear system.
When using plain intervals, cautiousness may lead to a severe overestimation
of the interval width. Therefore, if we have some expert judgment about the
actual value of the parameters, we may assign a greater degree of belief to some
values within the interval.
Moreover, if our knowledge is more precise, we can find a nested set of subin-
tervals, with increasing degree of belief, within which one or more values have
possibility equal to one, i.e. a fuzzy number (for a detailed discussion on the
relation between nested intervals and fuzzy sets see e.g. Nguyen and Kreinovich

1
(1996)).
The linear system, Ax = b, where the elements, aij , of the matrix A and the
elements, bi , of the vector b are fuzzy numbers is called a fuzzy linear system.
As a fuzzy number is a set of nested intervals, with increasing degree of belief,
interval linear systems can be considered as a special case of fuzzy linear sys-
tems. Despite this link, interval linear systems and fuzzy linear systems have
developed different solution techniques, that are only partially related one to
the other.
For an interval linear system the main solutions are: the united solution set, the
controlled solution set and the tolerable solution set. In most of the literature,
the united solution set is the set of main interest, see e.g. Kearfott (1996). Usu-
ally the interval formed by the bounds on the coordinates of the united solution
set is considered, this is called the solution hull. Methods to compute outer
estimates, i.e. estimates that contain the solution hull, have been proposed in
the literature. The three most common methods to compute outer estimates
are interval Gaussian elimination, the interval Gauss Siedel method and the
Krawczyk method. For more details we refer the reader to Neumaier (1990).
For a fuzzy linear system, the following solutions have been proposed: the clas-
sical solution XC , the joint or vector solution XJ and the marginal solutions
XE and XI . The classical solution XC employs alpha-cuts and fuzzy number
arithmetic in order to work out the solution. The original n*n system is trans-
formed into a 2n*2n system, by using the lower and the upper bound of the
alpha-cut of each fuzzy number. The solution x, if it exists, once plugged into
Ax = b verifies the equality. Buckley et al. (1991), (2002) point out that too
often the classical solution fails to exist. They propose three other solutions:
the joint or vector solution XJ , and two marginal solutions XE and XI . The
vector solution XJ is a fuzzy vector, obtained by using the extension principle,
that coincides, for each alpha-cut, with the united solution set. XE and XI are
obtained by first solving the corresponding crisp system using Cramer’s rule and
evaluating the solution by using the extension principle or interval arithmetic
for each alpha-cut, respectively.
A particular type of fuzzy system, Ax = b, where the coefficient matrix A is
crisp, while b is a fuzzy number vector, is investigated by Friedman et al. (1998),
Ming Ma et al. (2000) and Allahviranloo (2004a, 2004b, 2004c), by using in-
terval analysis techniques. Friedman et al. (1998) use the embedding method
given in Cong-Xin and Ming (1991). Allahviranloo (2004a, 2004b, 2004c) uses
the iterative Jacobi and Gauss Siedel method, the Adomian method and the
Successive over relaxation method, respectively. Ming Ma et al. (2000), start-
ing from the work by Friedman et al. (1998), analyse the solution of the fuzzy
system of the form A1 x = A2 x + b. They remark that the system A1 x = A2 x + b
is not equivalent to the system (A1 −A2 )x = b, since for an arbitrary fuzzy num-
ber u there exists no element v such that u + v = 0. They give the conditions
under which the new system has a solution. As far as we know, a similar result
for a more general type of fuzzy systems, with A a matrix with fuzzy coefficients,
has not been given yet.
The aim of this paper is twofold. First, a generalization of the vector solution

2
of Buckley and Qu (1991) to the fuzzy system A1 x + b1 = A2 x + b2 with A1 ,
A2 square matrices of fuzzy coefficients and b1 , b2 fuzzy number vectors, is pro-
posed. We give the conditions under which the system has a vector solution
and we show that the linear systems Ax = b and A1 x + b1 = A2 x + b2 , with
A = A1 − A2 and b = b2 − b1 , have the same vector solutions. Second, we
introduce a simple algorithm in order to find the vector solution to the system
Ax = b.
The plan of the paper is the following. In section 2 we recall the vector solution
of Buckley et al. (1991), (2002) to the system Ax = b. In section 3 we present
the generalization to the system A1 x+b1 = A2 x+b2 and in section 4 we propose
the solution algorithm. In section 5 we provide a financial application. The last
section concludes.

2 THE VECTOR SOLUTION OF BUCKLEY

ET AL.
Buckley et al. (1991), (2002) handle the general problem of constructing a
solution for the fuzzy matrix equation Ax = b, when the elements, aij , of the
n × n-matrix A and the elements, bi , of the nQ× 1-vector b are triangular fuzzy
n
numbers. Define aα ⊆ <k , k = n2 as aα = i,j=1 aij (α), aα is the Cartesian
Qn
product of the alpha-cuts aij (α) and bα = i=1 bi (α), α ∈ [0, 1]. Each n2 × 1-
vector v in a0 determines a crisp n × n-matrix Ac . The first row of Ac consists
of the first n elements of v, the second row contains the following n elements of
v, and so on. Assume that Ac is nonsingular for all vectors v ∈ a0 .
Buckley et al. (2002) propose the following procedure to solve the equation:
• solve the linear system by using fuzzy number arithmetic (solution XC ),
XC (α) = {[xj (α), xj (α)] | aij (α)xj (α)) = bi (α),
aij (α)xj (α) = bi (α)}
where (aij (α)xj (α)) = (bi (α)) and aij (α)xj (α) = bi (α) are evaluated using
the standard rules of addition and multiplication between fuzzy numbers.
We obtain a 2n ∗ 2n system to solve for xj (α) and xj (α), j = 1, ..., n. If
xj (α) ≤ xj (α), ∀j = 1, ..., n, then XC is a solution to the system.
• If XC does not exist, use the joint vector solution XJ , with
XJ (α) = {x | A(α)x = b(α), A(α)ij ∈ aij (α), b(α)i ∈ bi (α)}. The
marginals XJ j, j = 1, ..., n, are obtained by projecting XJ onto the coor-
dinate axes.
• If the vector solution XJ is too difficult to investigate, use XE that is
found by solving the crisp system using Cramer’s rule for each unknown:
 
(Aj )
xj =   (1)
(A)

3
 and then using the extension principle:
   
XE j(xj ) = max{π(v, b) | xj = (Aj )/(A)}
j = 1, ..., n (2)

• if the solution XE is too difficult to investigate use the solution XI , that

is found by solving the crisp system using Cramer’s rule for each unknown
and fuzzifying ex-post the crisp solution, using α-cuts and interval arith-
metic. XI can always be used since it is easy to determine. However the
main drawback of XI is that not all its elements are determined by a crisp
system A(α)x = b(α) such that A(α)ij ∈ aij (α), b(α)i ∈ bi (α).
Buckley et al. (1991) show that XCj (α) ⊆ XJj (α) ⊆ XEj (α) ⊆ XIj (α), ∀j,
j = 1, ..., n and ∀α ∈ [0, 1].

Example

Buckley and Qu (1991) prove that the system

(
(−4, −2, 0)x1 + (1, 2, 3)x2 = (−1, 0, 1)
(3)
(−3, −2, −1)x1 + 0x2 = (−1, 0, 1)

has no solution in the set of fuzzy numbers if one solves it using fuzzy arithmetic.
For this system one has:

(Aα )1,1 = (−4 + 2α) − 4(α − 1)λ1 , λ1 ∈ [0, 1]

(Aα )1,2 = (1 + α) − 2(α − 1)λ2 , λ2 ∈ [0, 1]
(Aα )2,1 = (−3 + α) − 2(α − 1)λ3 , λ3 ∈ [0, 1]
(Aα )2,2 = 0
(bα )1 = (−1 + α) − 2(α − 1)λ4 , λ4 ∈ [0, 1]
(bα )2 = (−1 + α) − 2(α − 1)λ5 , λ5 ∈ [0, 1]

All matrices Ac , v ∈ a0 , are nonsingular:

 
−4 + 4λ1 1 + 2λ2 
det(Ac ) = 
−3 + 2λ3 0 
= −(−3 + 2λ3 )(1 + 2λ2 ) 6= 0,
∀λ1 , λ2 , λ3 ∈ [0, 1]

4
Thus the system (3) has a vector solution, with α-cuts
 
x1
XJ (α) = ,
x2
(−1 + α) − 2(α − 1)λ5
x1 =
(−3 + α) − 2(α − 1)λ3
x2 = T /N,
T =
((−4 + 2α) − 4(α − 1)λ1 )((−1 + α) − 2(α − 1)λ5 )
−((−3 + α) − 2(α − 1)λ3 )((−1 + α) − 2(α − 1)λ4 )
N=
−((−3 + α) − 2(α − 1)λ3 )((1 + α) − 2(α − 1)λ2 ).

For α = 1 this set becomes a singleton, since then x1 = x2 = 0.

For α = 0 one obtains:
−1 + 2λ5
x1 =
−3 + 2λ3
x2 =
(−3 + 2λ3 )(−1 + 2λ4 ) − (−4 + 4λ1 )((−1 + 2λ5 )
.
(−3 + 2λ3 )(1 + 2λ2 )

By minimizing and maximizing those functions over λ1 , . . . , λ5 one obtains the

marginals: [−1, 1] and [−5, 5].

3 THE VECTOR SOLUTION TO THE FUZZY

LINEAR SYSTEM A1 x + b1 = A2 x + b2
Suppose that the fuzzy system A1 x + b1 = A2 x + b2 has no solutions in the set
of fuzzy numbers when using fuzzy number arithmetic. In the following we give
the conditions under which the system has a vector solution and we show that
the equivalent linear systems Ax = b and A1 x+b1 = A2 x+b2 , with A = A1 −A2
and b = b2 − b1 , have the same vector solutions.

Theorem 1
The fuzzy system A1 x + b1 = A2 x + b2 has a vector solution XJ∗ , with α-cuts

XJ∗ (α) = {x | A1α x + b1α = A2α x + b2α ,

(A1α )ij ∈ a1,ij (α), (A2α )ij ∈ a2,ij (α),
(b1α )i ∈ b1,i (α), (b2α )i ∈ b2,i (α)},

if all matrices A1,0 −A2,0 = [a01,ij −a02,ij ], with a1,ij ∈ a1,ij (0) and a2,ij ∈ a2,ij (0),
are nonsingular.

5
Proof

The statement follows by an argument analogous to the one of the proof given in
Buckley and Qu (1991) when defining their notations a(α) and b(α) (notations
used in the proof of Buckley and Qu) respectively as
n
Y
a∗α = (a1,ij (α) − a2,ij (α)),
i,j=1
Yn
b∗α = (b2,i (α) − b1,i (α)), α ∈ [0, 1].
i=1

Theorem 2
The linear systems Ax = b and A1 x + b1 = A2 x + b2 , with A, A1 , A2 , b, b1 , b2
matrices with elements which are fuzzy numbers, A and A1 − A2 non singular,
with A = A1 − A2 and b = b2 − b1 , have the same vector solutions XJ .

Proof.

It is evident that XJ (α) ⊆ XJ∗ (α), since clearly aα ⊆ a∗α and bα ⊆ b∗α .
Consider fuzzy numbers a, b, c, such that a = b − c, then x ∈ b(α) and y ∈ c(α)
implies that x − y ∈ a(α). Therefore XJ (α) ⊇ XJ∗ (α).

Example

Consider the following fuzzy linear system:


(−2, −1, 0)x1 + (0, 1, 2)x2 =

(0, 1, 2)x1 − x2 + (−1, 0, 1) (4)

(0, 1, 1)x1 + 2x2 = (2, 3, 3)x1 + 2x2 + (−1, 0, 1)


which has no solution in the set of fuzzy numbers if one solves it using fuzzy
arithmetic.
Remark that it is equivalent to system (3) since
 
(−4, −2, 0) (1, 2, 3)
=
(−3, −2, −1) 0
   
(−2, −1, 0) (0, 1, 2) (0, 1, 2) −1
− .
(0, 1, 1) 2 (2, 3, 3) 2

6
For this system one has:

(A1α )1,1 = (−2 + α) − 2(α − 1)λ1 , λ1 ∈ [0, 1]

(A1α )1,2 = α − 2(α − 1)λ2 , λ2 ∈ [0, 1]
(A1α )2,1 = α − (α − 1)λ3 , λ3 ∈ [0, 1]
(A1α )2,2 = 2
(A2α )1,1 = α − 2(α − 1)λ4 , λ4 ∈ [0, 1]
(A2α )1,2 = −1
(A2α )2,1 = (2 + α) − (α − 1)λ5 , λ5 ∈ [0, 1]
(A2α )2,2 = 2
(bα )1 = (−1 + α) − 2(α − 1)λ6 , λ6 ∈ [0, 1]
(bα )2 = (−1 + α) − 2(α − 1)λ7 , λ7 ∈ [0, 1]

All matrices A1,0 − A2,0 , are nonsingular since:

 
−2 + 2λ1 − 2λ4 1 + 2λ2 
det(A1,0 − A2,0 ) = 
−2 + λ3 − λ5 0 
= −(−2 + λ3 − λ5 )(1 + 2λ2 ) 6= 0,
∀λ1 , λ2 , λ3 , λ4 , λ5 ∈ [0, 1]
 
x1
Thus the system (4) has a vector solution with α-cuts XJ (α) = ,
x2

−(α + 1 − 2(α − 1)λ2 )(α − 1 − 2(α − 1)λ7 )

x1 =
(2 + (α − 1)(λ3 − λ5 ))(α + 1 − 2(α − 1)λ2 )
T1
x2 =
N1
T1 = (α − 1)((−2 − 2(α − 1)(λ1 − λ4 ))(1 − 2λ7 ) +
(2 + (α − 1)(λ3 − λ5 )(1 − 2λ6 ))
N1 = (2 + (α − 1)(λ3 − λ5 ))(α + 1 − 2(α − 1)λ2 ).

For α = 1 this set becomes a singleton, since then x1 = x2 = 0.

For α = 0 one obtains:
1 − 2λ7
x1 =
2 − (λ3 − λ5 )
T2
x2 =
N2
T2 = −((−2 + 2(λ1 − λ4 ))(1 − 2λ7 ) +
(2 − (λ3 − λ5 ))(1 − 2λ6 ))
N2 = (2 − (λ3 − λ5 ))(1 + 2λ2 ).

By minimizing and maximizing those functions for λ1 , . . . , λ7 one obtains the

marginals: [−1, 1] and [−5, 5]. The vector solution is the same as the vector

7
solution in section 2.

4 AN ALGORITHM TO FIND THE SOLU-

TION TO THE FUZZY SYSTEM Ax = b
The following practical algorithm finds directly the marginals of the vector so-
lution XJ for each unknown and overcomes the drawback of XI . It has the
advantage to be easily implementable and that the solution does not change
depending on how one writes each equation of the system (see Theorem 2).
First of all remark that for any crisp system Ac x = b, with Ac a nonsingular
n × n-matrix, each unknown xj , j = 1 . . . n is either an increasing or a decreas-
ing function of each aij and of each bi . In order to find the bounds of the
solution interval for each α-cut of the unknown xj each bound of the α-cuts
aij (α) = [aij (α), aij (α)] and bi (α) = [bi (α), bi (α)] should be used. Therefore
one has to solve 2n(n+1) systems. Each element of the extended coefficient ma-
trix of those systems is either the lower or the upper bound of the α-cut of the
corresponding element of the original fuzzy extended coefficient matrix. Con-
sider for example the following linear fuzzy system with two unknown x1 and
x2 :
(
a1,1 (α)x1 + a1,2 (α)x2 = b1 (α)
a2,1 (α)x1 + a2,2 (α)x2 = b2 (α).

In this case one should solve 26 linear systems, e.g. one of the 26 systems is:
(
a1,1 x1 + a1,2 x2 = b1
a2,1 x1 + a2,2 x2 = b2 .

The final solution is investigated by taking the minimum and the maximum of
the solutions found in each system for each unknown.
In order to draw a comparison with interval analysis, note that this procedure
finds the so-called vertex solution set (see Kulpa and Roslaniec (1999)):
Σ(vertA, vertB) = {x ∈ <n | ∃E ∈ vert(A), ∃e ∈ vert(b) | s.t.Ex = e} where
vert(A) = {Ã ∈ A | ãi,j ∈ {ai,j , ai,j } vert(b) = {b̃ ∈ b | b̃i ∈ {bi , bi }
where with f˜ we denote any element of the interval f .
As:
HullΣ(A, b) = HullΣ(vertA, vertB)
this procedure finds the interval hull of the united solution set for each alpha.
Moreover, the algorithm can be considered as n nonlinear programming prob-
lems (one for each unknown) with:

8
 • the object function xj (b1 , ..., a2,2 ) considered as a function of the coeffi-
cients, should be maximized (resp. minimized)
• with constraints:

b1 < b1 < b1
...
a2,2 < a2,2 < a2,2

The Kuhn Tucker conditions should be verified for the extrema.

A simplification of the previous method, is to find the solutions for α = 1 and
α = 0 and impose ex post a triangular form on the solution, whenever xj (1) ∈
[xj (0), xj (0)], for all j. In order to find xj (1), for all j, one just solves the crisp
system, substituting α = 1 in the fuzzy system. In order to find [xj (0), xj (0)],
for all j, one applies the algorithm for α = 0. If xj (1) ∈ [xj (0), xj (0)], for all
j, then one takes as solution the triangular fuzzy numbers (xj (0), xj (1), xj (0)).
Otherwise one concludes that there is no solution to the system.

Example

If one applies the algorithm proposed in this section to the system (3), one
should solve, for each alpha, in order to find [xj (α), xj (α)], for j = 1, 2, the
linear systems,
(
a1,1 x1 + a1,2 x2 = b1
(5)
a2,1 x1 + a2,2 x2 = b2

with ai,j (α) ∈ {ai,j (α), ai,j (α)} and bi (α) ∈ {bi (α), bi (α)} for i, j = 1, 2.
We obtain 26 systems and therefore 26 solutions [x1 (α), x1 (α)], [x2 (α), x2 (α)].
The marginals of the final solution are obtained by taking the minimum and
maximum for each unknown:

1−α


 x1 (α) = −1−α
x (α) = −1+α

1 −1−α

 x2 (α) = (−1−α)(−1+α)−(−4+2α)(1−α)
(1+α)(−1−α)

x2 (α) = (−1−α)(1−α)−(−4+2α)(−1+α)

(1+α)(−1−α)

We now apply the simplified procedure: we solve the system for α = 0 and for
α = 1 and we impose a triangular form.
For α = 0, we provide in Table 1 the coefficients and solutions and we get:

x (0) = −1
 1


 x1 (0) = 1


 x2 (0) = −5
x2 (0) = 5


9
Remark that, as one could expect, the same marginals are found as in section
2.
For α = 1 the following system should be solved:
(
−2x1 (1) + 2x2 (1) = 0
−3x1 (1) + 0x2 (1) = 0.

The solution of this system is: x1 (1) = 0 and x2 (1) = 0. Clearly those values
belong to the resp. intervals [−1, 1] and [−5, 5] and thus the triangular fuzzy
numbers (−1, 0, 1) and (−5, 0, 5) are the solutions to the system.
The corresponding nonlinear programming problems are:
• minimize (resp. maximize) the object function
b2
x1 (a2,1 , b2 ) =
a2,1
with constraints:

−3 ≤ a2,1 ≤ −1
−1 ≤ b2 ≤ 1

• minimize (resp. maximize) the object function

a2,1 b1 − a1,1 b2
x2 (a1,1 , a1,2 , a2,1 , b1 , b2 ) =
a1,2 a2,1
with constraints:

−4 ≤ a1,1 ≤ 0
1 ≤ a1,2 ≤ 3
−3 ≤ a2,1 ≤ −1
−1 ≤ b1 ≤ 1
−1 ≤ b2 ≤ 1

Clearly the Kuhn-Tucker conditions hold for the proposed solution.

5 A FINANCIAL APPLICATION
Several problems in economics and finance boil down to the solution of a linear
system of equations which contain parameters that are not exactly known.
In this section we analyse an important financial problem: the derivation of the
risk neutral probabilities in a fuzzy binary tree model.
The binary tree model of Cox et al. (1979) is used to price options and other
derivative securities. A European call option is a financial security that provides

10
its holder, in exchange for the payment of a premium, the right but not the
obligation to buy a certain underlying asset at a certain date in the future for
a specified price K. In the binary tree model of Cox et al. (1979) the following
assumptions are made: (A1) the markets have no transaction costs, no taxes, no
restrictions on short sales, and assets are infinitely divisible; (A2) the lifetime
T of the option is divided into N time steps of length T /N ; (A3) the market
is complete; (A4) no arbitrage opportunities are allowed, which implies for the
risk-free interest factor, 1 + r, over one step of length T /N , that d < 1 + r < u,
where u is the up and d the down factor. The European call option price at
time zero, has a well-known formula in this model,
EC(K, T ) =
N  
1 X N j N −j
S(0)uj dN −j − K + ,


N
pu pd
(1 + r) j=0 j

where K is the exercise price, S(0) is the price of the underlying asset at time
the contract begins, pu and pd are the resp. up and down risk-neutral transition
probabilities. Fundamental for the option valuation is the derivation of the risk
neutral probabilities, which are obtained from the following system:
(
pu + pd = 1
(6)
upu + dpd = 1 + r.
The solution is given by:
(1 + r) − d u − (1 + r)
pu = pd = .
u−d u−d
In order to estimate the up and down jump factors from market data, the
standard methodology (see Cox et al. (1979)) leads to set:
√ √
u = eσ T /N , d = e−σ T /N ,
where σ is the volatility of the underlying asset.
If there is some uncertainty about the value of the volatility, then it is also
impossible to precisely estimate the up and down factors. [Muzzioli et al., 2004]
suggest to model the up and down jump factors by triangular fuzzy numbers.
A fuzzy version of the two equations of the system (6) should now be intro-
duced. This can be done (for each equation) in two different ways, since for an
arbitrary fuzzy number f there exists no fuzzy number g such that f + g = 0
and for all non-crisp fuzzy numbers f + (−f ) 6= 0:
pu + pd = (1, 1, 1)
pu = (1, 1, 1) − pd
respectively
upu + dpd = (1 + r, 1 + r, 1 + r)
upu = (1 + r, 1 + r, 1 + r) − dpd

11
where pu and pd are the fuzzy up and down probabilities and u and d are
triangular fuzzy numbers.
Therefore the linear system (6) can be rewritten in four different ways:
(
p u + pd = 1
(7)
upu + dpd = 1 + r,

(
pu = 1 − pd
(8)
upu + dpd = 1 + r,

(
pu = 1 − p d
(9)
dpd = (1 + r) − upu ,

and
(
pu + p d = 1
(10)
dpd = (1 + r) − upu .

Different solutions to the same fuzzy linear system have been found in Muzzioli
and Torricelli (2001 and 2004), and in Reynaerts and VanMaele (2003), by
solving system (7) and system (8), respectively. It is easy to see that the four
systems have no classical solution, therefore we investigate the vector solution.
If one applies this algorithm to the financial example, one should solve the
following systems:
(
p u + pd = 1
upu + dpd = 1 + r.

(
pu + pd = 1
upu + dpd = 1 + r.

(
pu + pd = 1
upu + dpd = 1 + r.

(
pu + p d = 1
upu + dpd = 1 + r.

The solutions to those systems are resp.:

(
pu = (1+r)−d
u−d
u−(1+r) (11)
pd = u−d .

12
 ( (1+r)−d
pu = u−d
u−(1+r) (12)
pd = u−d .


pu = (1+r)−d
u−d
u−(1+r) (13)
pd = .
u−d

( (1+r)−d
pu = u−d
u−(1+r) (14)
pd = u−d
.

The final solution is obtained by taking the minimum and maximum for each
unknown:



 pu = min( (1+r)−d
u−d ,
(1+r)−d (1+r)−d (1+r)−d
u−d , u−d
, u−d )

p = max( (1+r)−d , (1+r)−d , (1+r)−d , (1+r)−d )

u u−d u−d u−d u−d
pd = min( u−(1+r) , u−(1+r) , u−(1+r) , u−(1+r)


 u−d u−d u−d u−d
p = max( u−(1+r) , u−(1+r) , u−(1+r) , u−(1+r) ).

d u−d u−d u−d u−d

Therefore, the vector of fuzzy numbers:

!
[ (1+r)−d
u−d
, (1+r)−d
u−d ]
,
[ u−(1+r)
u−d ,
u−(1+r)
u−d
]

is a solution to the system. This solution is the same solution found in Muzzioli
and Torricelli (2001, 2004).
Note that the algorithm boils down to the following nonlinear programming
problems (for each α):

1+r−d
maxu,d (resp.minu,d )
u−d
where (1 + r ≤)u ≤ u ≤ u
and d ≤ d ≤ d(≤ 1 + r)

u − (1 + r)
maxu,d (resp.minu,d )
u−d
where (1 + r ≤)u ≤ u ≤ u
and d ≤ d ≤ d(≤ 1 + r)
d−(1+r)
Since ∂p
∂u = (u−d)2 < 0 the maximum of pu is obtained for u
u max
= u and the
min
minimum for u = u.
(1+r)−u
Since ∂p
∂d = (u−d)2 < 0 the maximum of pu is obtained for d
u max
= d and the

13
minimum for dmin = d.
Since ∂p
∂u
d
= (1+r)−d
(u−d)2 > 0 the maximum of pd is obtained for u
max
= u and the
min
minimum for u = u.
Since ∂p
∂d
d
= u−(1+r)
(u−d) 2 > 0 the maximum of pd is obtained for dmax = d and the
minimum for dmin = d

6 CONCLUSIONS
In this paper we studied fuzzy linear systems of the most general form A1 x+b1 =
A2 x + b2 , with A1 and A2 square matrices of fuzzy coefficients and b1 and b2
fuzzy number vectors.
We proposed a generalization of the vector solution of Buckley and Qu (1991)
to the fuzzy system A1 x + b1 = A2 x + b2 : we gave the conditions under which
the system has a vector solution and we showed that the linear systems Ax = b
and A1 x + b1 = A2 x + b2 , with A = A1 − A2 and b = b2 − b1 , have the same
vector solutions. Moreover, we introduced an algorithm to solve the system
Ax = b, with A and b matrices with fuzzy elements. It has the advantage to
be easily implementable and to overcome the drawbacks of the solution XI . An
financial application, that highlights the importance of the problem addressed,
is provided.

References
[1] T. Allahviranloo, Numerical methods for fuzzy system of linear equations,
Applied mathematics and computation 155 (2004a) 493-502.
[2] T. Allahviranloo, The Adomian decomposition method for fuzzy system of
linear equations, Applied mathematics and computation, article in press
(2004b).
[3] T. Allahviranloo, Successive over relaxation iterative method for fuzzy sys-
tem of linear equations, Applied mathematics and computation, article in
press (2004c).
[4] J.J. Buckley, E. Eslami, T. Feuring, Fuzzy mathematics in economics and
engineering, Studies in Fuzziness and soft computing, Phisica Verlag, 2002.
[5] J.J. Buckley, Y. Qu, Solving systems of linear fuzzy equations, Fuzzy sets
and systems 43 (1991) 33-43.
[6] R. Baker Kearfott, Rigorous global search: continuous problems, Kluwer
Academic Publishers,The Netherlands, 1996.
[7] M. Cong-Xin, M. Ming, Embedding problem of fuzzy number space: Part
I, Fuzzy Sets and Systems, 44 (1991) 33-38.

14
 [8] M. Friedman, Ma Ming, A. Kandel, Fuzzy linear systems, Fuzzy sets and
systems 96 (1998) 201-209.
[9] Z. Kulpa, K. Roslaniec, Solution sets for systems of linear interval equa-
tions, Computer Assisted Mechanics and Engineering Sciences 7 (2000)
625-639.
[10] Ming Ma, M. Friedman, A. Kandel, Duality in fuzzy linear systems, Fuzzy
sets and systems 109 (2000) 55-58.
[13] S. Muzzioli, C. Torricelli, A multiperiod binomial model for pricing options
in a vague world, Proceedings of the second International Symposium on
Imprecise Probabilities and Their Applications (2001) 255-264.

[13] S. Muzzioli, C. Torricelli, A Multiperiod Binomial Model for Pricing Op-

tions in a Vague World, Journal of Economic Dynamics and Control, Spe-
cial Issue on Financial Modelling 28 (2004) 861-887.
[13] H. Reynaerts, M. Vanmaele, A sensitivity analysis for the pricing of Eu-
ropean call options in a binary tree
model, Proceedings of the third International Symposium on Imprecise
Probabilities and Their Applications, (2003) 467-481.
[14] A. Neumaier, Interval methods for systems of equations, Cambridge Uni-
versity Press, England, 1990.
[15] H.T. Nguyen, V. Kreinovich, Nested intervals and sets: concepts, relations
to fuzzy sets, and applications, In: R.B. Kearfott and V. Kreinovich (eds.),
Applications of interval computations, Kluwer Academic Publishers, The
Netherlands, 245-290, (1996).
Table 1.: coefficients and solutions for systems (5).
a1,1 a1,2 a2,1 a2,2 b1 b2 x1 x2
−4 1 −3 0 −1 −1 1/3 1/3
−1 1 −1/3 −7/3
1 −1 1/3 7/3
1 1 −1/3 −1/3
−4 1 −1 0 −1 −1 1 3
−1 1 −1 −5
1 −1 1 5
1 1 −1 −3
−4 3 −3 0 −1 −1 1/3 1/9
−1 1 −1/3 −7/9
1 −1 1/3 7/9
1 1 −1/3 −1/9
−4 3 −1 0 −1 −1 1 1
−1 1 −1 −5/3
1 −1 1 5/3
1 1 −1 1

15
0 1 −3 0 −1 −1 1/3 −1
−1 1 −1/3 −1
1 −1 1/3 1
1 1 −1/3 1
0 1 −1 0 −1 −1 1 −1
−1 1 −1 −1
1 −1 1 1
1 1 −1 1
0 3 −3 0 −1 −1 1/3 −1/3
−1 1 −1/3 −1/3
1 −1 1/3 1/3
1 1 −1/3 1/3
0 3 −1 0 −1 −1 1 −1/3
−1 1 −1 −1/3
1 −1 1 1/3
1 1 −1 1/3

16