Portfolio Risk and Return Quiz

Diversification and Markowitz Portfolio Theory

• Markowitz Portfolio Theory states that diversification eliminates specific risk, also known as unsystematic risk or diversifiable risk.
• The primary purpose of diversification in investment portfolios is to reduce risk by spreading investments across different asset classes, sectors, and securities.
• Diversification does not affect undiversifiable risk, also known as systematic risk or market risk. This type of risk is inherent in the overall market and cannot be eliminated through diversification.
• Markowitz Portfolio Theory suggests achieving diversification through combining assets that have low correlation. This means choosing investments whose returns are not closely linked to each other.
• The Markowitz Model aims to provide tools for constructing efficient portfolios. An efficient portfolio maximizes expected returns for a given level of risk or minimizes risk for a given level of expected returns.
• Markowitz Portfolio Theory mainly focuses on optimizing the risk-return trade-off of a portfolio. It helps investors understand the relationship between risk and expected return and construct portfolios that balance these factors.
• Diversification reduces the variability of actual returns around the expected returns of a portfolio. This means that the actual returns of a diversified portfolio are more likely to be closer to the expected returns, reducing the risk of large deviations from the expected outcome.
• Diversification aims to eliminate idiosyncratic risk in an investment portfolio. This is the risk associated with individual assets that can be mitigated by holding a diversified portfolio.
• Markowitz Portfolio Theory suggests that diversification can effectively reduce systematic risk to an undiversifiable level. This means that while diversifying a portfolio cannot eliminate all risk, it can significantly reduce the risk associated with specific assets or sectors within a portfolio.