Bad managerial judgments or unforeseen negative events that happen to a firm are defined as "company-specific," or "unsystematic," events, and their effects on investment risk can in theory be diversified away.

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BlackTom AI · Accepted Answer

The statement describes bad managerial judgments or unforeseen negative events that affect a firm as company-specific or unsystematic, and claims their effects on investment risk can in theory be diversified away.
First, consider what unsystematic risk means: it refers to risk unique to a particular company or industry, such as management decisions, regulatory issues, or a product recall. This type of risk is not tied to overall market movements.
Next, assess the diversification claim: by holding a well-diversified portfolio across many firms and sectors, the idiosyncratic risks of individual companies tend to cancel out, reducing the portfolio’s overall unsystematic risk. The remaining risk—the portion that cannot be eliminated by diversification—is systematic risk, which is tied to broad market factors.
So, the statement that company-specific or unsystematic events can, in theory, be diversified away is consistent with standard portfolio theory. It acknowledges that diversification reduces these risks, even though it cannot remove systematic risk.
Note that there are practical limits to diversification (finite number of investments, correlations between assets, transaction costs, and concentration risks), but the core theoretical claim remains that unsystematic risk can be mitigated through diversification.
In this context, since the provided answer option is True, the analysis supports that classification: the statement correctly identifies unsystematic risk as diversifiable.

Business Finance Chapter 08 Quiz

Bad managerial judgments or unforeseen negative events that happen to a firm are defined as "company-specific," or "unsystematic," events, and their effects on investment risk can in theory be diversified away.

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