Question

The principle of diversification tells us that spreading an investment across a number of assets will eliminate:

A) An insignificant portion of the risk
B) Some of the risk
C) Almost none of the risk
D) All of the risk

Answer 1

B) Some of the risk

The principle of diversification eliminates some of the risk by spreading investments across various assets, thereby reducing reliance on any single investment's performance.

Step-by-step explanation:

The principle of diversification is a key strategy in managing investment risk. It involves spreading investments across various assets to reduce the overall risk. By investing in a variety of stocks, bonds, or mutual funds, you are not reliant on the performance of a single investment. Diversification takes advantage of the fact that not all assets will move in the same direction or at the same rate; when some investments are down, others may be up, thereby reducing the volatility of your investment portfolio.

The correct answer to the question of what diversification eliminates is: B) Some of the risk. While it cannot eliminate all risk (as all investments carry some form of risk), diversification is effective at reducing unsystematic risk, which is the risk associated with individual stocks or companies.