When investment returns are less than perfectly positively correlated,the resulting diversification effect means that:
A) making an investment in two or three large stocks will eliminate all of the unsystematic risk.
B) making an investment in three companies all within the same industry will greatly reduce the systematic risk.
C) spreading an investment across five diverse companies will not lower the total risk.
D) spreading an investment across many diverse assets will eliminate all of the systematic risk.
E) spreading an investment across many diverse assets will eliminate some of the total risk.
F) None of the above.

Question

Quizplus · Accepted Answer

When investment returns are less than perfectly positively correlated, spreading an investment across many diverse assets will eliminate some of the total risk. This is because diversification helps to reduce unsystematic risk. However, it does not eliminate all risk as there may still be systematic risk that cannot be diversified away. Option A is incorrect because investing in two or three large stocks will not necessarily eliminate all unsystematic risk. Option B is incorrect because investing in companies within the same industry does not reduce systematic risk. Option C is incorrect because spreading an investment across five diverse companies will lower the total risk through diversification. Option D is incorrect because diversification cannot eliminate all systematic risk.

When Investment Returns Are Less Than Perfectly Positively Correlated,the Resulting