Financial Risk Manager Part 2

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Explanation:

According to factor risk theory:

Option D is correct. Purchasing out-of-the-money (OTM) put options is a classic way to hedge volatility risk, as they act as a form of insurance, gaining significant value when markets plummet and volatility surges.
Option A is incorrect. An asset that provides high payoffs during bad times (like insurance) is typically highly valued by investors, which drives its price up and its risk premium down (or even negative).
Option B is incorrect. While they face the same factors, investors have different risk tolerances, horizons, and liabilities, meaning their optimal exposures vary significantly.
Option C is incorrect. Safe-haven assets like government bonds or gold often perform well during economic downturns, meaning not all investors or assets are negatively impacted.

Explanation:

According to factor risk theory:

Option D is correct. Purchasing out-of-the-money (OTM) put options is a classic way to hedge volatility risk, as they act as a form of insurance, gaining significant value when markets plummet and volatility surges.
Option A is incorrect. An asset that provides high payoffs during bad times (like insurance) is typically highly valued by investors, which drives its price up and its risk premium down (or even negative).
Option B is incorrect. While they face the same factors, investors have different risk tolerances, horizons, and liabilities, meaning their optimal exposures vary significantly.
Option C is incorrect. Safe-haven assets like government bonds or gold often perform well during economic downturns, meaning not all investors or assets are negatively impacted.

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UAnonymous

Last updated: July 5, 2026 at 07:29

Investors in an asset that is likely to have a high payoff during adverse market conditions usually earn high risk premiums on that asset.

Investors who invest in the same assets are exposed to the same set of risk factors and have the same level of optimal exposure.

Investors are affected negatively when there is an unexpected decline in economic growth, regardless of the type of their investments.

Investors in an asset with a large exposure to volatility risk can hedge against this risk by purchasing out-of-the-money put options.