Answer: Portfolio Z.

To hedge a short exposure to Factor 3, we need a portfolio with a positive sensitivity to Factor 3. Looking at the factor sensitivities: - Portfolio X: Factor 3 sensitivity = 0.00 - Portfolio Y: Factor 3 sensitivity = 0.00 - Portfolio Z: Factor 3 sensitivity = 1.00 Portfolio Z has a sensitivity of 1.00 to Factor 3, which would provide a perfect hedge against the short exposure. When Factor 3 increases, Portfolio Z would gain value, offsetting the losses from the short position.

Author: LeetQuiz Editorial Team