Unsystematic Risk

Unsystematic risk, also known as specific or idiosyncratic risk, refers to the risk associated with a particular company, industry, or sector that can be reduced or eliminated through diversification. This type of risk is unique to a specific company or asset and can arise from factors such as management decisions, labor strikes, product recalls, or regulatory changes. Unlike systematic risk, which affects the entire market, unsystematic risk can be mitigated by holding a well-diversified portfolio.

Example

An investor holding only airline stocks faces unsystematic risk if one airline faces financial trouble or a strike, but this risk could be reduced by investing in other industries as well.

Key points

• Risk specific to a company, industry, or sector.

• Can be reduced or eliminated through diversification.

• Arises from factors like management issues, product recalls, or regulatory changes.

Quick Answers to Curious Questions

How does unsystematic risk differ from systematic risk?

Unsystematic risk is specific to a company or industry, while systematic risk affects the entire market and cannot be diversified away.

What are examples of unsystematic risk?

Examples include a company’s poor management decisions, a product failure, or a strike that affects operations.

How can investors minimize unsystematic risk?

By diversifying their portfolios across various industries and asset classes, investors can reduce exposure to company-specific or industry-specific risks.