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Answer: b) If the investor instead uses NASDAQ-100 futures contracts to hedge the market risk, the basis risk (with respect to market risk) can be eliminated
The statement that is **not true** is **B**. - **A is true**: Hedging a single stock is less efficient than hedging a diversified portfolio because idiosyncratic risk remains large relative to systematic risk. - **C is true**: A hedge can reduce losses but can also reduce gains; if the stock outperforms, the futures hedge may create a loss, making the net result worse than holding the stock alone. - **D is true**: Using S&P 500 futures to hedge Apple is a **cross hedge** because the hedge instrument is not the exact underlying asset. - **B is false**: Even if NASDAQ-100 futures may be a better proxy for Apple than S&P 500 futures, **basis risk cannot be eliminated entirely**. Therefore, the correct answer is **B**.
Author: Manit Arora
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Question 155.4. Assume (see previous P1.T3.) that an investor uses S&P 500 index futures to hedge the (systematic) market risk on an underlying long position in a large position in Apple (APPL) stock. Each of the following is true EXCEPT:
A
a) The hedge is worse than if the underlying were a well-diversified portfolio because the systematic risk is a lower proportion of the individual stock’s total risk
B
b) If the investor instead uses NASDAQ-100 futures contracts to hedge the market risk, the basis risk (with respect to market risk) can be eliminated
C
c) It is entirely possible that the net position (i.e., underlying plus futures contracts) performs worse than the “naked” single stock position alone
D
d) This is technically a cross hedge
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