One of the easiest methods of diversifying away firm-specific risks is to:
A) buy only stocks with a beta of 1.0.
B) build a portfolio with 40 to 55 individual stocks.
C) purchase the shares of an index fund.
D) purchase stocks that plot above the security market line.

Question

Quizplus · Accepted Answer

Purchasing the shares of an index fund is the best choice to diversify away firm-specific risks. An index fund offers exposure to a diversified portfolio of stocks, which helps to mitigate the impact of any one company's poor performance on the overall portfolio. This is a simple and low-cost way to achieve diversification without having to research and manage a large number of individual stocks. Options A and D are not effective diversification strategies, as beta and the security market line relate to market risk, not specific company risk. Option B could work if the portfolio is well diversified across multiple industries and sectors, but building a portfolio of 40 to 55 individual stocks can be time-consuming and costly for individual investors.

One of the Easiest Methods of Diversifying Away Firm-Specific Risks