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Question

Risk associated with a portfolio is always less than the weighted average of risks of individual items in the portfolio due to _______

                              I.        Diversification of risks

                            II.        The fact that all accounts in a portfolio have different Beta

                           III.        The fact that risks in all the accounts in a portfolio will not materialize simultaneously

A Only i Correct Answer Incorrect Answer
B i and ii Correct Answer Incorrect Answer
C i and iii Correct Answer Incorrect Answer
D ii and iii Correct Answer Incorrect Answer
E all of the above Correct Answer Incorrect Answer

Solution

Risk associated with a portfolio is always less than the weighted average of risks of individual items in the portfolio due to diversification of risks. This means that the risk is spread out as all individual items in a portfolio will not behave in unidirectional manner or the risks in all the individual items in a portfolio will not materialize simultaneously. The market Beta of each item is also different and therefore, the market risk associated with each is also different thereby reducing the overall impact on a well diversified portfolio.

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