Asked by Alyssa Everett on Apr 27, 2024
Verified
Consider a day on which the S&P/TSX 60 Index, an index of 60 large stocks, rose 59 points. On that same day, Alcan, which is one of the stocks in the Index, announced some unexpectedly bad news. The price of Alcan declined $10 on that same day. Using this example, discuss systematic risk, portfolio diversification, and asset specific risk.
Systematic Risk
The risk inherent to the entire market or an entire market segment, which cannot be mitigated through diversification.
Asset Specific Risk
The risk of loss associated with a particular asset, different from market risk.
Portfolio Diversification
A risk management technique that mixes a wide variety of investments within a portfolio.
- Acquire knowledge about the concept of diversifying portfolios and its importance in mitigating risk associated with portfolios.
- Grasp the definitions and distinctions between systematic and unsystematic risk.
- Explain the importance of only systematic risk to risk-averse investors and the irrelevance of total risk.
Verified Answer
ZK
Zybrea KnightMay 04, 2024
Final Answer :
Asset specific risk is obviously the negative announcement coming from Alcan, resulting in a decline in the stock's price. The principle of systematic risk is evident in that the market in general was advancing. Finally, the deeper part of this question is that students should recognize that any investor who held Alcan alone on this particular day lost money. However, anyone who owned Alcan in a well diversified portfolio, such as the S&P/TSX 60, made money in spite of Alcan's decline within the portfolio. This clearly demonstrates the value of portfolio diversification.
Learning Objectives
- Acquire knowledge about the concept of diversifying portfolios and its importance in mitigating risk associated with portfolios.
- Grasp the definitions and distinctions between systematic and unsystematic risk.
- Explain the importance of only systematic risk to risk-averse investors and the irrelevance of total risk.