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4. Impact of Diversification on Risk and Return: Unsystematic Risk Impact of Diversification on Risk and Return: Systematic Risk Diversification Introduction to Risk and Return > Diversification Free to share, print, make copies and changes. Get yours at www.boundless.com www.boundless.com/finance?campaign_content=book_192_section_81&campaign_term=Finance&utm_campaign=powerpoint&utm_medium=dir ect&utm_source=boundless

5. Diversification is not putting all your eggs in one basket. Diversification relies on the lack of a tight positive relationship among the assets' returns, and works even when correlations are near zero or somewhat positive. The debate over active vs passive management is one that takes on the limits to diversification. Impact of Diversification on Risk and Return: Unsystematic Risk Free to share, print, make copies and changes. Get yours at www.boundless.com www.boundless.com/finance/textbooks/boundless-finance-textbook/introduction-to-risk-and-return-8/diversification-81/impact-of-diversification-on- risk-and-return-unsystematic-risk-352- 1867?campaign_content=book_192_section_81&campaign_term=Finance&utm_campaign=powerpoint&utm_medium=direct&utm_source=boundl ess An empirical example relating diversification to risk reduction View on Boundless.com Introduction to Risk and Return > Diversification

6. Diversification is a technique for reducing risk that relies on the lack of a tight positive relationship among the returns of various types of assets. The role of diversification is to narrow the range of possible outcomes. Unsystematic risk does not factor into an investment's risk premium, since this type of risk can be diversified away. Impact of Diversification on Risk and Return: Systematic Risk Free to share, print, make copies and changes. Get yours at www.boundless.com www.boundless.com/finance/textbooks/boundless-finance-textbook/introduction-to-risk-and-return-8/diversification-81/impact-of-diversification-on- risk-and-return-systematic-risk-353- 7287?campaign_content=book_192_section_81&campaign_term=Finance&utm_campaign=powerpoint&utm_medium=direct&utm_source=boundl ess The Security Market Line View on Boundless.com Introduction to Risk and Return > Diversification

7. Free to share, print, make copies and changes. Get yours at www.boundless.com Appendix

8. Key terms systematic risk systematic or non-diversifiable risk is a term given to the portion of risk in a portfolio that cannot be diversified away by holding a pool of individual assets and therefore commands a return in excess of the risk-free-rate. Unsystematic risk Unsystematic or diversifiable risk is a term given to the portion of risk in a portfolio that can be diversified away by holding a pool of individual assets. Free to share, print, make copies and changes. Get yours at www.boundless.com Introduction to Risk and Return

9. An empirical example relating diversification to risk reduction In 1977 Elton and Gruber worked out an empirical example of the gains from diversification. Their approach was to consider a population of 3,290 securities available for possible inclusion in a portfolio, and to consider the average risk over all possible randomly chosen n-asset portfolios with equal amounts held in each included asset, for various values of n. Their results are summarized in the following table. It can be seen that most of the gains from diversification come for n≤30. Free to share, print, make copies and changes. Get yours at www.boundless.com Wikipedia. "Diversification (finance)." GNU FDL http://en.wikipedia.org/wiki/Diversification_(finance) View on Boundless.comGNU FDLhttp://en.wikipedia.org/wiki/Diversification_(finance)View on Boundless.com Introduction to Risk and Return

10. The Security Market Line Diversification theory says that the only risk that earns a risk premium is that which can't be diversified away. Free to share, print, make copies and changes. Get yours at www.boundless.com Wikipedia. "SecMktLine." GNU FDL http://en.wikipedia.org/wiki/File:SecMktLine.png View on Boundless.comGNU FDLhttp://en.wikipedia.org/wiki/File:SecMktLine.pngView on Boundless.com Introduction to Risk and Return

11. Free to share, print, make copies and changes. Get yours at www.boundless.com Introduction to Risk and Return Which of the following accurately describes unsystemic risk? A) Unsystemic risk can be diversified away. B) All of these answers. C) Unsystemic risk is correlated to investing in only one company or security. D) A company losing a lawsuit which creates a massive legal liability is an example of unsystemic risk.

12. Free to share, print, make copies and changes. Get yours at www.boundless.comwww.boundless.com Boundless - LO. "Boundless." CC BY-SA 3.0 http://www.boundless.com/CC BY-SA 3.0http://www.boundless.com/ Introduction to Risk and Return Which of the following accurately describes unsystemic risk? A) Unsystemic risk can be diversified away. B) All of these answers. C) Unsystemic risk is correlated to investing in only one company or security. D) A company losing a lawsuit which creates a massive legal liability is an example of unsystemic risk.

13. Free to share, print, make copies and changes. Get yours at www.boundless.com Introduction to Risk and Return Which of the following statements accurately describes systemic risk? A) By diversifying your stock portfolio, you can minimize systemic risk. B) Systemic risk is what provides a stock its "risk premium." C) An example of a systemic risk is if you own stock in a company that has liquidity problems. D) All of these answers.

14. Free to share, print, make copies and changes. Get yours at www.boundless.comwww.boundless.com Boundless - LO. "Boundless." CC BY-SA 3.0 http://www.boundless.com/CC BY-SA 3.0http://www.boundless.com/ Introduction to Risk and Return Which of the following statements accurately describes systemic risk? A) By diversifying your stock portfolio, you can minimize systemic risk. B) Systemic risk is what provides a stock its "risk premium." C) An example of a systemic risk is if you own stock in a company that has liquidity problems. D) All of these answers.

15. Attribution Wikipedia. "Diversification (finance)." CC BY-SA 3.0 http://en.wikipedia.org/wiki/Diversification_(finance)CC BY-SA 3.0http://en.wikipedia.org/wiki/Diversification_(finance) Wikipedia. "Unsystematic risk." CC BY-SA 3.0 http://en.wikipedia.org/wiki/Unsystematic%20riskCC BY-SA 3.0http://en.wikipedia.org/wiki/Unsystematic%20risk Wikipedia. "Diversification (finance)." CC BY-SA 3.0 http://en.wikipedia.org/wiki/Diversification_(finance)CC BY-SA 3.0http://en.wikipedia.org/wiki/Diversification_(finance) Wiktionary. "systematic risk." CC BY-SA 3.0 http://en.wiktionary.org/wiki/systematic+riskCC BY-SA 3.0http://en.wiktionary.org/wiki/systematic+risk Free to share, print, make copies and changes. Get yours at www.boundless.com Introduction to Risk and Return