Final answer:
A portfolio manager using index options is trying to reduce systematic risk. Systematic risk is the uncertainty inherent to the entire market that can be hedged using these financial instruments. Diversification, as can be found in mutual funds and index funds, is another strategy to manage risk.
Step-by-step explanation:
A portfolio manager using index options is typically trying to reduce systematic risk. Systematic risk, also known as market risk, is the risk inherent to the entire market or market segment. Using index options allows the portfolio manager to hedge against market downturns that can affect the performance of the broader market and not just individual securities. Options do not protect against selection risk, which is due to the specific choices of securities within a portfolio, or purchasing power risk, which is related to inflation. Financial risk, which may refer to a company's use of debt, is not directly addressed through index options either. Diversification is a key consideration for investors to mitigate risk, which can be achieved by investing in a variety of financial assets such as mutual funds and index funds. A mutual fund is a pooled investment vehicle managed by a professional manager who invests in stocks, bonds, or other assets. An index fund is a type of mutual fund with a portfolio constructed to match or track the components of a market index. Additionally, buying a house to live in can be considered a financial investment as it involves capital allocation with the expectation of future returns in the form of housing utility and potential appreciation in the property's value.