Explain the difference between systematic and unsystematic risk, and why one of these types of risks is rewarded with a risk premium while the other type is not. Give some examples for systematic and unsystematic risk.
Systematic risk refers to the market risk associated with investments, which cannot be diversified away. Unsystematic risk refers to the standalone risk of the investment which can be diversified and eliminated through multiple investments.
Systematic risk is rewarded with a risk premium while unsystematic risk is not because investor require returns in order to take risk.
Risk associated with interest rates, inflation, government policy making, geopolitical issues, war, terrorism, etc. are examples of systematic risk. Some of the unsystematic risks are management exits, loss due to fire or earthquake, disruption in marketplace, etc.
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