Portfolio managers pick stocks for their clients’ portfolios based on the investment objective of the portfolio and several other factors. One key consideration is each stock’s contribution to portfolio risk and its statistical relationship with the portfolio’s other stocks.

ased on your understanding of portfolio risk, identify whether each statement is true or false.

1. Because of the effects of diversification, the portfolio's risk is likely to be more than the average of all stocks' standard deviations
2. The unsystematic risk component of the total portfolio risk can be reduced by adding negatively correlated stocks to the portfolio
3. A portfolio's risk is likely to be smaller than the average of all stocks' standard deviations, because diversification lowers the portfolio's risk.

1. Because of the effects of diversification, the portfolio's risk is likely to be more than the average of all stocks' standard deviations FALSE, IT IS EXACTLY THE OPPOSITE, SINCE THE PORTFOLIO'S RISK IS LIKELY TO BE SMALLER DUE TO DIVERSIFICATION.

2. The unsystematic risk component of the total portfolio risk can be reduced by adding negatively correlated stocks to the portfolio TRUE, NEGATIVELY CORRELATED STOCKS ARE USED TO DECREASE A PORTFOLIO'S RISK

3. A portfolio's risk is likely to be smaller than the average of all stocks' standard deviations, because diversification lowers the portfolio's risk. TRUE, THIS STATEMENT IS JUST THE OPPOSITE OF STATEMENT 1 WHICH WAS FALSE.