Strategy Beginner: The Importance of Diversification

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1.
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.
2.
In investing language, what does it mean to diversify?
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To divide your investments among a variety of assets. This can mean different types of assets, different industries, different countries, etc.
3.
Diversifying across industries can reduce risk.
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True. Problems that befall one industry may not befall others.
4.
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.
5.
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.
6.
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.
7.
When a financial advisor says, "Let's talk about risk and how much you can deal with," he or she is talking about _______.
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Risk tolerance. Risk tolerance is the amount of risk with which you are comfortable.