Strategy Beginner: The Importance of Diversification

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1.
Diversification among asset classes can reduce the overall return of a portfolio because _______.
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Diversifying among different asset classes means including less-volatile assets that have lower expected earnings. Returns are averaged among all the securities in the portfolio.
2.
Diversification helps to reduce risk because _______.
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Different investments perform differently. The idea behind diversification is that the changes in differently performing investments will cancel each other out.
3.
Financial advisors suggest diversifying because putting your money into different investments is often the best way to avoid losing large sums of money.
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True. Diversifying spreads risk among several investments.
4.
Why does diversifying across different classes of assets help reduce risk?
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Different classes of assets respond differently to economic events. Each type of asset (stocks, bonds, cash, real estate, etc.) has its own risks that may not exist for other types of assets.
5.
Risk tolerance is the amount of risk with which you are comfortable.
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True. It determines your choices of investments, among many other things.
6.
How can you greatly reduce unsystematic risk?
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Diversify your investments among several companies. Unsystematic risks are specific to a company. You can reduce them greatly by investing in several companies.
7.
Diversifying across industries can reduce risk.
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True. Problems that befall one industry may not befall others.