Purpose of Stress Testing in Portfolio Management

A financial analyst at a major investment firm is trying to gauge the potential impact of extreme market conditions on their investment portfolio. The analyst decides to conduct a stress test, which is a risk management technique designed to evaluate how different scenarios would affect the performance and value of the portfolio.

The analyst considers several hypothetical scenarios, such as a significant interest rate hike, a stock market crash, and a sudden geopolitical crisis. The objective of the stress test is to estimate the potential losses the portfolio could face under these adverse conditions.

Which of the following statements best describes the purpose of stress testing in portfolio management?