Unsystematic Risk

AAA

DEFINITION of 'Unsystematic Risk'

Company- or industry-specific hazard that is inherent in each investment. Unsystematic risk, also known as “nonsystematic risk,” "specific risk," "diversifiable risk" or "residual risk," can be reduced through diversification. By owning stocks in different companies and in different industries, as well as by owning other types of securities such as Treasuries and municipal securities, investors will be less affected by an event or decision that has a strong impact on one company, industry or investment type. Examples of unsystematic risk include a new competitor, a regulatory change, a management change and a product recall.

INVESTOPEDIA EXPLAINS 'Unsystematic Risk'

For example, the risk that airline industry employees will go on strike, and airline stock prices will suffer as a result, is considered to be unsystematic risk. This risk primarily affects the airline industry, airline companies and the companies with whom the airlines do business. It does not affect the entire market system, so it is an “unsystematic” or “nonsystematic” risk.

An investor who owned nothing but airline stocks would face a high level of unsystematic risk. By diversifying his or her portfolio with unrelated holdings, such as health-care stocks and retail stocks, the investor would face less unsystematic risk. However, even a portfolio of well-diversified assets cannot escape all risk. It will still be exposed to systematic risk, which is the uncertainty that faces the market as a whole. Even staying out of the market completely will not take an investor’s risk down to zero, because he or she would still face risks such as losing money from inflation and not having enough assets to retire.

Investors may be aware of some potential sources of unsystematic risk, but it is impossible to be aware of all of them or to know whether or when they might occur. An investor in health-care stocks may be aware that a major shift in government regulations could affect the profitability of the companies they are invested in, but they cannot know when new regulations will go into effect, how the regulations might change over time or how companies will respond.

RELATED TERMS
  1. Systematic Risk

    The risk inherent to the entire market or entire market segment. ...
  2. Market Exposure

    The amount of funds invested in a particular type of security ...
  3. Company Risk

    The financial uncertainty faced by an investor who holds securities ...
  4. Idiosyncratic Risk

    Risk that is specific to an asset or a small group of assets. ...
  5. Micro Risk

    A type of political risk that refers to political actions in ...
  6. Active Risk

    A type of risk that a fund or managed portfolio creates as it ...
Related Articles
  1. Enhance Your Portfolio With Active Equity
    Trading Strategies

    Enhance Your Portfolio With Active Equity

  2. Achieving Optimal Asset Allocation
    Investing Basics

    Achieving Optimal Asset Allocation

  3. Determining Risk And The Risk Pyramid
    Investing Basics

    Determining Risk And The Risk Pyramid

  4. Protect Your Foreign Investments From ...
    Mutual Funds & ETFs

    Protect Your Foreign Investments From ...

Hot Definitions
  1. Wage-Price Spiral

    A macroeconomic theory to explain the cause-and-effect relationship between rising wages and rising prices, or inflation. ...
  2. Accelerated Depreciation

    Any method of depreciation used for accounting or income tax purposes that allows greater deductions in the earlier years ...
  3. Call Risk

    The risk, faced by a holder of a callable bond, that a bond issuer will take advantage of the callable bond feature and redeem ...
  4. Parity Price

    When the price of an asset is directly linked to another price. Examples of parity price are: 1. Convertibles - the price ...
  5. Earnings Multiplier

    An adjustment made to a company's P/E ratio that takes into account current interest rates. The earnings multiplier is used ...
  6. Macroeconomics

    The field of economics that studies the behavior of the aggregate economy. Macroeconomics examines economy-wide phenomena ...
Trading Center