Question

Explain why the development diversification and regulation of the financial market is important for consumers

Answer 1

Diversification is investing across or within different asset classes to minimize risk. Total risk of investment is sum of systematic risk and unsystematic risk. Unsystematic risk is also known as company specific risk and can be diversified, whereas systematic risk or market risk affects the overall market not just particular stock or an industry of the country and is considered undiversified risk. Diversification not only helps in reducing unsystematic but all systematic risk. Globalization has affected the way investors look at their portfolios. Increase in cross-border financial activity, Investors are trying to enhance their risk-adjusted returns by diversifying their portfolios internationally and are seeking out the best investment opportunities from a wider range of industries, countries, and currencies. By investing in foreign exchanges systematic risk can also be diversified with superior returns. A diversified portfolio will help to survive during Market Downturns. There is uncertainty of economic stability of a single country, Job security is an illusion. In all diversification can finance an individual's entire retirement.

Financial markets play an important role for economic growth. As financial markets and intermediaries reduce costs of moving funds and help overcome an information asymmetry. Financial markets not functioning efficiently and good, the economy cannot operate efficiently, and economic growth is affected. Asymmetric information is major factor leading to financial instability.

Financial sector regulation like disclosure requirements provides the required information and reduces asymmetry of information. Regulations provides stability to the markets and protect customers, workers and taxpayers from moral hazards.

After the great recession 0f 2008 people have lost their faith on financial markets. However, regulations like Basel, CCAR and Dodd-Frank Wall Street Reform and Consumer reform act” restored consumer confidence by stabilizing the financial system and closing risk-based capital, stress testing that allowed banks to be solvent even in economic downturn.