Which activity has been associated with creating systemic risk in financial markets?

Which activity has been associated with creating systemic risk in financial markets?

• A. Diversifying a loan portfolio
• B. Holding loans to maturity
• C. Regulatory oversight
• D. Selling of loans to other organizations

Answer: (D)

Systemic risk happens when risks are shared or spread across many institutions through interconnected markets. Selling loans to other organizations does this by turning individual loans into assets traded among a network of buyers, often through securitization. Each participant’s exposure becomes linked to others, so a problem in one part of the market can ripple through the whole system, especially if liquidity dries up or losses mount. In contrast, diversification, holding loans to maturity, or regulatory oversight tend to either reduce specific risks or strengthen oversight, rather than creating the broad interconnections that drive systemic risk.

Systemic risk happens when risks are shared or spread across many institutions through interconnected markets. Selling loans to other organizations does this by turning individual loans into assets traded among a network of buyers, often through securitization. Each participant’s exposure becomes linked to others, so a problem in one part of the market can ripple through the whole system, especially if liquidity dries up or losses mount. In contrast, diversification, holding loans to maturity, or regulatory oversight tend to either reduce specific risks or strengthen oversight, rather than creating the broad interconnections that drive systemic risk.