Unit 11

Question 1

Systematic Risks

Answer 1

The risk that changes in the overall economy will have an adverse effect on individual securities regardless of the company’s circumstances

• cannot be diversified away

Question 2

Market risk

Answer 2

when the market tanks, virtually all securities lose value

• measured by a security’s beta
• cannot be diversified away

Question 3

Interest Rate Risk

Answer 3

Risk that interest rate changes will affect bond prices

Question 4

Reinvestment Risk

Answer 4

Risk that you will not be able to reinvest your money at the same return

• 0 coupon bonds avoid this risk because there is nothing to reinvest

Question 5

Inflation Risk (Purchasing Power Risk)

Answer 5

• TIPS are one investment vehicle designed to protect against inflation risk
• fixed-income securities are the most vulnerable to this risk

Question 6

Unsystematic risks

Answer 6

can be reduced through diversification

Question 7

Business risk

Answer 7

• generally caused by poor management

- highest for investors whose portfolios contain stock in only one issuer or in lower rated bonds

Question 8

Financial risk

Answer 8

The risk that the inability to meet debt obligations could lead to bankruptcy and total loss for the stockholders.

Related primarily to those companies that use debt financing (leverage)

Question 9

Credit (Default) Risk

Answer 9

If the exam asks for a security without credit risk, it is common stock because there is no obligation to pay back a debt.

Question 10

Regulatory Risk

Answer 10

The risk that comes from a change in regulations

• “Green” industries, industries that tend to pollute, oil and gas exploration, airlines, and pharmaceutical manufacturers

Question 11

Legislative Risk

Answer 11

Risk of changes in the law such as changes to the tax code

Question 12

Political Risk

Answer 12

Potential instability in the political underpinnings of the country

Question 13

Sovereign Risk

Answer 13

Risk of a country defaulting on its commercial debt obligations

Question 14

Country Risk

Answer 14

monitors the political and economic stability of countries, it’s the total risk of investing in the obligations of that country and includes political and sovereign risk

Question 15

Liquidity risk

Answer 15

the risk that when an investor wishes to dispose of an investment, no one will be willing to buy it, or that a very large purchase or sale would not be possible at the current price

• for exam purposes, also called

Question 16

Among the provisions of the Investment Company Act of 1940 designed to protect the interests of investors is the provision that

Answer 16

any change in fundamental investment policy must be approved by stockholders