Question

Basic finance.After combing through the data, you have noticed that firms hiring Fishergraduates earn average abnormal returns of +3% per year over the next few years. Youare convinced that this is a genuine profit opportunity and so have decided to trade on it.You have $10,000 to invest and two options: (1) invest all $10,000 in one company thathas just hired a Fisher graduate; (2) invest $1,000 in each of ten companies that have justhired Fisher graduates. Which choice is preferable, or does it not matter?

Answer 1

Answer: (2) invest $1,000 in each of ten companies that have justhired Fisher graduates

Explanation:

This is the better option because if you invest all the money into one company, you stand a chance of losing all your money should the company fail.

It is better to invest in 10 companies that hired Fisher graduates. Why?

Diversification.

Diversification is investing in multiple investment vehicles to hedge your investments and ensure that you do not lose it all if one or a few investment go awry. By investing in 10 companies, you would be practicing diversification which would ensure that you do not lose it all on 1 company.

You also stand a chance to make more profit if a couple of those companies outperform your estimates.

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