By hedging a portfolio,a bank manager
A)reduces interest-rate risk.
B)increases reinvestment risk.
C)increases exchange-rate risk.
D)increases the probability of gains.

Question

Quizplus · Accepted Answer

By hedging a portfolio, a bank manager reduces the amount of interest-rate risk. This is achieved by taking offsetting positions in financial instruments that are inversely correlated with the portfolio's interest rate sensitivity. As a result, changes in interest rates will have less of an impact on the portfolio's value, and the risk of losses due to interest rate movements is reduced. Hedging does not necessarily increase the probability of gains, but it does help to protect against losses. Hedging may also increase the complexity of the portfolio management process and may incur additional costs, but it can be a valuable risk management tool. Increasing reinvestment risk and exchange-rate risk would be undesirable outcomes of hedging, and they are not the intended effects of this strategy.

By Hedging a Portfolio,a Bank Manager