Understanding Products and Their RisksDifficulty 3/5
An investor diversifies a portfolio across many issuers and sectors. Which risk does this principally address?
- AInterest rate risk, which is specific to individual issuers or sectors
- BNon-systematic risk, which is specific to individual issuers or sectors
- CSystematic risk, which is specific to individual issuers or sectors
- DMarket risk, which is specific to individual issuers or sectors
Show answer and rationale
Correct: B. Diversification spreads issuer-specific and sector-specific exposure. Systematic risk is by definition what remains after diversification, which is why it is also called market risk.
- C — Systematic risk affects the whole market and is precisely what diversification cannot remove.
- D — Market risk is another name for systematic risk and is not reduced by diversification.
- A — Interest rate risk affects the market broadly and is managed by duration or hedging, not diversification.