Question

6. Portfolio risk and diversification A financial planner is examining the portfolios held by several of her clients. Which of the following portfolios is likely to have the smallest standard deviation? A portfolio consisting of about 30 randomly selected stocks A portfolio containing only Chevron stock A portfolio consisting of about 30 energy stocks Portfolio managers pick stocks for their clients' portfolios based on the investment objective of the portfolio and several other factors. One key consideration is each stock's contribution to portfolio risk and its statistical relationship with the portfolio's other stocks Based on your understanding of portfolio risk, identify whether each statement is true or false. False Statement True Because of the effects of diversification, the portfolio's risk is likely to be more than the average of all stocks' standard deviations The unsystematic risk component of the total portfolio risk can be reduced by adding negatively correlated stocks to the portfolio A portfolio's risk is likely to be smaller than the average of all stocks' standard deviations, because diversification lowers the portfolio's risk Portfolio risk will increase if more stocks that are negatively correlated with other stocks are added to the portfolio.

Answer 1

1) A portfolio consisting of about 30 randomly selected stocks

2)

a) False

b) True

c) True

d) False