CPS Risk Management in Portfolios 1 — Questions and Answers
Question 1: What is 'systematic risk' in portfolio management?
- Risk specific to a single company
- Market-wide risk that cannot be diversified away (Correct answer)
- Risk from poor record-keeping
- Risk from currency fluctuations only
Correct answer: Market-wide risk that cannot be diversified away
Systematic risk (market risk) affects all investments and cannot be eliminated through diversification.
Question 2: What does 'beta' measure in portfolio risk analysis?
- A portfolio's total return
- A portfolio's sensitivity to market movements (Correct answer)
- The portfolio's dividend yield
- The credit quality of bonds
Correct answer: A portfolio's sensitivity to market movements
Beta measures how much a portfolio or security moves relative to the overall market, with a beta of 1.0 indicating it moves in line with the market.
Question 3: What is 'unsystematic risk' also called?
- Market risk
- Idiosyncratic or company-specific risk (Correct answer)
- Inflation risk
- Interest rate risk
Correct answer: Idiosyncratic or company-specific risk
Unsystematic risk (idiosyncratic risk) is specific to a company or sector and can be reduced through diversification.
Question 4: Which tool is commonly used to hedge against portfolio downside risk?
- Additional equity purchases
- Put options on the portfolio or index (Correct answer)
- Increasing cash to 100%
- Buying junk bonds
Correct answer: Put options on the portfolio or index
Put options give the holder the right to sell at a set price, protecting against portfolio losses if markets decline.
Question 5: What does 'Value at Risk' (VaR) estimate?
- The maximum possible gain in a portfolio
- The maximum expected loss over a specific period at a given confidence level (Correct answer)
- The average annual return
- The total assets under management
Correct answer: The maximum expected loss over a specific period at a given confidence level
VaR estimates the maximum loss a portfolio could experience over a given time period at a specific confidence level (e.g., 95% or 99%).
Question 6: How does 'duration' relate to interest rate risk for bond portfolios?
- Higher duration means less sensitivity to interest rate changes
- Higher duration means greater sensitivity to interest rate changes (Correct answer)
- Duration has no relationship to interest rate risk
- Duration only applies to equity portfolios
Correct answer: Higher duration means greater sensitivity to interest rate changes
Higher duration bonds are more sensitive to interest rate changes, meaning their prices will fall more when rates rise.
CPS Risk Management in Portfolios 1
What is 'systematic risk' in portfolio management?