Question

If the marginal investor of a stock is not diversified (i.e. the stock’s investor base is...

If the marginal investor of a stock is not diversified (i.e. the stock’s investor base is entirely small individual investors), how would that affect our view of the stock’s risk?

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Answer #1

If the marginal investor is not diversifed, it will INCREASE THE OVERALL RISK ASSOCIATED WITH INVESTMENT INTO STOCK.

Diversification will provide the marginal investor with the advantage of elimination of unsystematic risk in his portfolio and diversification will also mean that the marginal investor is properly allocating his assets in different asset classes but in this case he has not diversified, and hence his overall risk associated with investment will increase.

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