An investor maintains a portfolio that is broadly diversified across multiple domestic industries and asset classes. During a sudden macroeconomic downturn, the overall equity market experiences a sharp decline, causing the investor's portfolio value to fall despite its wide diversification. Which of the following risk management strategies would provide an effective hedge against this remaining systematic risk?
- Purchasing broad-market index put optionsCevap
- BIncreasing the number of individual domestic equity holdings across more business sectors
- CReallocating the entire portfolio into long-term fixed-income securities to eliminate overall market price sensitivity
- DReallocating assets into speculative corporate bonds because an inverted yield curve signals robust future economic expansion
Cevap
Purchasing broad-market index put options
Purchasing broad-market index put options allows an investor to establish a floor on portfolio losses caused by market-wide downturns. Because systematic risk impacts the broader market as a whole, index options act as an effective hedge against market risk.
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Systematic risk (market risk) affects the overall market and cannot be eliminated by diversification, but it can be hedged using index options.