Past exam of the mathematics course of the University of Cambridge / 2013 / iii / Paper 39 / 4 / b / Solution

The first-contact time ${\tau }_{\ast }\le T$ is a stopping time: the event $\{{\tau }_{\ast }\le t\}$ is the finite union of events $\{U_s=Y_s\}$ for $s\le t$. It is finite because $U_T=Y_T$. On $\{{\tau }_{\ast }>t\}$ we have $U_t>Y_t$, so the maximum defining the Snell envelope selects continuation andThe stopped process $U_{t\wedge {\tau }_{\ast }}$ is therefore a martingale: before stopping its conditional increment is zero and after stopping its increment vanishes. Applying the stopped-sum argument with zero conditional increments givesThe upper bound from part (a) now proves that first contact is an optimal stopping time.