What is the relationship between interest rates and systematic risk?

The relationship between interest rates and systematic risk is intricately linked to how changes in interest rates can influence the overall economy, which in turn affects investment strategies and the cost of capital.

When interest rates change, they can impact the cost of borrowing for businesses and consumers. For instance, lower interest rates typically reduce the cost of capital, encouraging more borrowing and investment. This can lead to increased business expansion and consumer spending, positively affecting economic growth. Conversely, higher interest rates can increase borrowing costs, potentially slowing down investment and spending.

Because systematic risk refers to the inherent risk that affects the entire market, changes in interest rates can lead to fluctuations in asset prices and returns. Investors must adjust their strategies based on the prevailing interest rates, as they influence the expected returns on investments. Therefore, systematic risk can be seen as affected by the overall economic environment, which is influenced by interest rates.

Options that suggest a lack of connection or imply a direct elimination of systematic risk do not capture the nuanced interplay between interest rates and market dynamics. Thus, the correct choice highlights the dynamic effect that changes in interest rates have on the cost of capital and the resulting strategies that investors must adopt in a changing economic landscape.