Evaluate the diversification's risk profile.

• A. Very low risk
• B. High risk
• C. Moderate risk
• D. No risk

Answer: (C)

Diversification reduces risk by spreading investments across assets that don’t move in perfect sync, cutting unsystematic (idiosyncratic) risk tied to any one company or industry. But it can’t remove systematic risk—the risk that comes from broad market factors like economic downturns, interest rates, or inflation that affect almost all assets. Because of that market-wide risk, a well-diversified portfolio will still have some exposure to risk, just less than holding a single asset or a poorly diversified mix. So, in general, diversification leads to a lower overall risk than concentrating holdings, but not zero risk; that’s why the risk profile is best described as moderate. If the assets are highly correlated, diversification’s benefit shrinks and risk can remain higher; if correlations are low and diversification is broad, risk can be reduced further, but never eliminated.