Stock Trading Stock Trading Portfolio Strategy & Asset Allocation 1 — Questions and Answers
Question 1: What is 'diversification' in portfolio management?
- Concentrating all capital in the highest-performing sector
- Spreading investments across different assets to reduce risk (Correct answer)
- Buying only large-cap stocks
- Rebalancing a portfolio monthly
Correct answer: Spreading investments across different assets to reduce risk
Diversification reduces portfolio risk by allocating investments across various asset classes, sectors, and geographies so poor performance in one area is offset by others.
Question 2: What does 'asset allocation' refer to in portfolio strategy?
- Selecting individual stocks within a sector
- The distribution of investments among different asset classes like stocks, bonds, and cash (Correct answer)
- The process of rebalancing monthly
- Setting stop-loss orders on each position
Correct answer: The distribution of investments among different asset classes like stocks, bonds, and cash
Asset allocation is the strategy of dividing a portfolio among major asset categories—equities, fixed income, and cash equivalents—based on goals, risk tolerance, and time horizon.
Question 3: What is 'beta' in the context of stock portfolio management?
- The excess return of a portfolio over its benchmark
- A measure of a stock's volatility relative to the overall market (Correct answer)
- The percentage of a portfolio allocated to bonds
- The dividend payment schedule of a stock
Correct answer: A measure of a stock's volatility relative to the overall market
Beta measures how much a stock's price tends to move relative to the market; a beta of 1.2 means the stock moves 20% more than the market on average.
Question 4: What is 'rebalancing' a portfolio?
- Selling all underperforming stocks
- Restoring a portfolio to its target asset allocation after market movements shift the weights (Correct answer)
- Doubling down on winning positions
- Switching from individual stocks to index funds
Correct answer: Restoring a portfolio to its target asset allocation after market movements shift the weights
Rebalancing involves buying or selling assets to restore a portfolio to its intended allocation after price changes have caused it to drift from the target.
Question 5: What does 'alpha' represent in portfolio performance?
- The total return of the portfolio
- The excess return generated above a benchmark, adjusted for risk (Correct answer)
- The volatility of the portfolio relative to peers
- The percentage allocation to alternative assets
Correct answer: The excess return generated above a benchmark, adjusted for risk
Alpha measures the value a portfolio manager adds (or subtracts) above the return of a benchmark index, after adjusting for risk taken.
Question 6: What is the 'efficient frontier' in modern portfolio theory?
- The minimum return required to beat inflation
- The set of portfolios that offer the highest expected return for a given level of risk (Correct answer)
- The maximum number of stocks a portfolio should hold
- The regulatory capital requirement for margin accounts
Correct answer: The set of portfolios that offer the highest expected return for a given level of risk
The efficient frontier represents the optimal portfolios that provide the best possible expected return for a defined level of risk, as defined by Harry Markowitz.
Stock Trading Stock Trading Portfolio Strategy & Asset Allocation 1
What is 'diversification' in portfolio management?