Which of the following statements is true?
A)If many loans have negative correlations of returns the sum of the individual credit risks of loans viewed independently exactly estimates the risk of the whole portfolio.
B)If many loans have negative correlations of returns the sum of the individual credit risks of loans viewed independently underestimates the risk of the whole portfolio.
C)If many loans have positive correlations of returns the sum of the individual credit risks of loans viewed independently overestimates the risk of the whole portfolio.
D)If many loans have negative correlations of returns the sum of the individual credit risks of loans viewed independently overestimates the risk of the whole portfolio.

Question

Quizplus · Accepted Answer

When loans have negative correlations of returns, diversification benefits come into play, reducing the overall portfolio risk compared to the sum of individual risks. Thus, summing up the individual credit risks overestimates the total risk.

Which of the Following Statements Is True