A financial advisor is analyzing four client portfolio scenarios affected by various non-diversifiable macroeconomic factors. Match each portfolio scenario on the left with the primary subtype of systematic risk it illustrates on the right.
- A domestic investor holding a broad portfolio of foreign equities via American Depositary Receipts (ADRs) experiences declining net dollar returns due to unexpected local currency depreciation, despite strong native market performance.Currency (Exchange Rate) Risk
- An investor holding a long-duration portfolio of fixed-rate corporate bonds suffers significant market price declines following a series of sudden benchmark interest rate hikes by the Federal Reserve.Interest Rate Risk
- A retiree relying on a fixed monthly payout from a long-term corporate annuity finds that their real purchasing power has diminished significantly over a 20-year horizon despite zero credit defaults.Inflation (Purchasing Power) Risk
- An investor holding a highly diversified basket of mega-cap domestic stocks across all eleven GICS sectors suffers a simultaneous 18% decline across all holdings during a broad market liquidity shock.Market Risk
Answer
The foreign equity ADR scenario matches Currency Risk; the long-duration fixed-rate bond decline matches Interest Rate Risk; the fixed annuity purchasing power decline matches Inflation Risk; and the broad multi-sector stock index decline matches Market Risk.
Each scenario correctly isolates a specific non-diversifiable systematic risk factor: ADR currency conversions illustrate currency risk, bond price sensitivity to monetary policy illustrates interest rate risk, long-term erosion of fixed payments illustrates inflation risk, and broad market-wide stock declines illustrate market risk.
Step-by-Step Solution
Key Concept
Systematic risk represents non-diversifiable macro risks inherent to the broad financial market, divided into specific subtypes including market risk, interest rate risk, inflation risk, and currency risk.