theeffects,thoughcyclicalfirms(suchasautomobiles,steel,
andhousing)mayfeelitmore.Wecategorizetheseasmarket
risk.
Finally,therearerisksthatfallinagrayarea,dependingon
howmanyassets theyaffect. Forinstance, whenthedollar
strengthens against other currencies, it has a significant
impactontheearningsandvaluesoffirmswithinternational
operations. If most firms in the market have significant
international operations, it could well be categorized as
market risk. If only a few do, it would be closer to
firm-specificrisk.Figure2.1summarizes thebreakdown or
the spectrum of firm-specific and market risks.
FIGURE 2.1Breakdown of Risk
Asaninvestor,youcouldinvestyourentireportfolioinone
asset.Ifyoudoso,youareexposedtobothfirm-specificand
market risks. If, however, you expand your portfolio to
includeotherassetsorstocks,youarediversifying,and by
doingso,youcanreduceyourexposuretofirm-specificrisk
for two reasons. The first is that each investment in a