Question

3. Portfolio risk and diversification Aa Aa 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 with 10 randomly selected international stocks A portfolio with 10 randomly selected U.S. stocks A portfolio with 10 randomly selected stocks from U.S. and international markets 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. True False Statement A portfolio's risk is not equal to the weighted average of the individual stocks' standard deviations. The market risk component of the total portfolio risk can be reduced by randomly adding stocks to the portfolio. When returns on Stock A increase, returns on Stock B also increase. In general, this would mean that Stocks A and B are positively correlated. The risk in a portfolio will increase if more stocks that are negatively correlated with other stocks are added to the portfolio. O

Answer 1

Answer-

The last option is correct.

A portfolio with 10 randomly selected stocks from US and International markets.
This portfolio will have the smallest standard deviation or risk as it is diversified compared to the first two options of portfolios consisting of 10 randomly selected international stocks and 10 randomly selected US stocks.

Answer-

Statement	True/False
A portfolio's risk ---- standard deviations	True
The market risk component --------- stocks to the portfoilio	False
When returns on Stock A increases------positively correlated	True
The risk on a portfolio-------- added to the portfolio	False

first staement
When a portfolio is well-diversified, the individual risk of assets become negligible for the overall risk of the portfolio and the portfolio risk is not equal to the weighted average of the individual stocks standard deviation.

second statement
Randomly adding stocks to the portfolio does not reduce the market risk of a portfolio.

third satement

As both stock A and B move in te same direction with returns thety are posistively related.

last statement

The risk in a portfolio will decrease if stocks with negative correlation are added to the portfolio as both the stocks prices will move in opposite directions thus decreasing the risk of both stocks pricing to decrease at the same moment. Adding Negatively co related stocks to the portfolio is the best way to reduce risk and increase diversification