Final answer:
The incremental risk to a portfolio from adding another stock may be either positive or negative, largely dependent on the correlation between the stock's returns and the portfolio's returns. Diversification can lower overall risk, but the potential for higher returns is a compensating factor for taking on greater risk with stocks.
Step-by-step explanation:
The incremental risk to a portfolio from adding another stock may be either positive or negative. When a new stock is added to a diversified portfolio, the overall risk of the portfolio can change depending on the correlation of the new stock's returns with the returns of the existing portfolio. If the new stock has returns that are not perfectly correlated with the portfolio, it can lead to a reduction in the portfolio's overall risk through the benefits of diversification.
The tradeoff between the expected return and the degree of risk is a critical concept in investment strategy. For instance, while stocks are considered riskier than bonds or bank accounts, they are also expected to provide a higher average return over the long term to compensate for this increased risk. Thus, the potential incremental risk associated with adding a stock to a portfolio must be viewed in the context of expected returns and the investor's stage in life.