How does systematic risk differ from unsystematic risk?

Systematic risk, often referred to as market risk, is associated with factors that impact the entire market or economy—such as interest rates, inflation, recessions, or geopolitical events. This type of risk cannot be eliminated through diversification because it affects all investments across the board.

In contrast, unsystematic risk pertains to risks that are specific to a particular company or industry, such as management decisions, product recalls, or competition. These risks can be mitigated or eliminated by diversifying a portfolio, as holding a diverse range of investments reduces the exposure to any one particular entity's risk.

Thus, the distinction lies in the breadth of the impact—systematic risk is market-wide, affecting all assets, while unsystematic risk is localized, affecting individual investments. Understanding this difference is crucial for effective portfolio management and risk assessment, as it guides investors on how to structure their portfolios to mitigate risks appropriately.