Kira Trace, research analyst at an investment banking firm, took the Level 1 CFA examination in 2001, but did not pass. Last year, she studied alone, and only for one-month before the exam. This year, she is starting earlier and is working with a mentor, Anton Park, CFA. While discussing asset pricing models with Park,
Trace makes the following statements. Park can see that Trace still needs to study this area because only one of her statements is correct. Which statement is
CORRECT?
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A. B. C. D.A
Diversification reduces unsystematic or unique risk. With the risk-free asset and a portfolio of risky assets, the equation for the expected standard deviation is linear:wA
. A combination of the risk free asset and a portfolio always gives more return for a given level of risk. Risk tends to be reduced, but assuming that assets are not perfectly positively correlated, an investor can achieve the benefits of diversification by adding just one security (Markowitz). Studies have shown that approximately 18-30 stocks are needed for proper diversification. The main point is that the number ofstocks required is small and is significantly less than all securities (and significantly less than 1,000 securities).